It is now well documented that many owners’ management companies are facing the prospect of litigating to recover the cost of remedial works for defective developments or passing the cost onto the owners themselves. Given the passage of time since the construction of the developments and the insolvency of many of the developers and contractors involved in those projects following the financial crisis, management companies often face an uphill battle to recover damages.
Security for costs applications present another and more immediate threat to management companies looking to commence litigation and the on-going Pebble Beach Owners Management Company Ltd v Neville & Ors proceedings is an example of how defendants can use the application to shut down proceedings at the outset.
Security for costs
Section 52 of the Companies Act 2014 provides that where a company is a plaintiff in “any action or other legal proceedings”, a judge may “if it appears by credible testimony that there is reason to believe that the company will be unable to pay the costs of the defendant if successful in his or her defence”, require security to be given for the costs and may stay the proceedings until this is given. Therefore to succeed in a security for costs application, a defendant must establish the following:
- That he has a prima facie defence to the plaintiff’s claim, and
- The plaintiff will not be able to pay the defendant’s costs.
In the event that the two facts are established, then security ought to be required but the court has a discretion to refuse an order which it may exercise if special circumstances are shown to exist, and the onus of establishing such special circumstances rests on the party resisting the application.
Specific considerations for management companies
In the Pebble Beach proceedings, a security for costs application was brought by two of the nine defendants in 2016. The court was satisfied that these particular defendants had a bone fide defence, beyond mere assertions, to the proceedings. The court then determined that the management company would not be in a position to meet the costs likely to be incurred by the defendants in defending the action. The management company’s accounts showed difficulties in collecting the service charges from members. In addition to this, they were unable to demonstrate that a proposal to put in place a levy on owners to meet the costs of the litigation was viable as there was no evidence of any resolution having been passed at a meeting of the company. The court ordered that security be provided which the management company was unable to provide. The management company was then left with no option but to discontinue the proceedings against these two defendants.
In January 2019, the remaining seven defendants issued a second security for costs application, putting forward broadly the same evidence on the management company’s financial position and inability to pay its likely costs if the proceedings were successfully defended. On this occasion, the management company was able to successfully resist the application. They did this on the basis that the inexcusable delay in bringing the application by the defendants amounted to a special circumstance which ought to persuade the court to exercise its discretion against the grant of security. The court in this instance, recognised that if the likely effect of making an order for security for costs is to bring the proceedings to an end, there is an onus on the defendants to make the application as soon as reasonably possible.
Well advised developers and contractors being sued by management companies for defects will be acutely aware of the often restricted financial position which management companies find themselves. Their sole asset is generally the common areas of the development in question which has no realisation value and the sole source of income comes from the service charges levied on the members. Bringing a security for costs application without delay at the outset of the proceedings is an opportunity for defendant developers and contractors to halt the proceedings immediately.
It is important for management companies considering issuing proceedings to ensure that:
- All service charges have been collected
- A reserve fund is built up
- Up to date management accounts are maintained and,
- Where necessary, have evidence of a resolution having been passed by the members to raise a special levy, in order to defeat a security for costs application, should one be brought against them.