Real World - May 2013: Residential service charges – mixed news for landlords on statutory consultation

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The decisions in Phillips & Goddard v Francis and Daejan Investments Ltd v Benson cause further uncertainty in already muddied waters for landlords seeking to pass on the cost of works to residential tenants.

Phillips & Goddard v Francis

Under the Landlord and Tenant Act 1985 (as amended), a landlord is obliged to follow a prescribed consultation procedure prior to undertaking ‘qualifying works’. Failure to do so (or to do so properly) may result in the tenants’ annual service charge contributions being capped at, currently, £250 per tenant.

In Phillips & Goddard v Francis, the owners of holiday chalets in Cornwall challenged a service charge of £3,117.47 imposed by the site owners to recover the cost of various improvement works carried out. The tenants argued that all the improvement works undertaken during the previous year constituted a single set of qualifying works and that, because the landlord had failed to comply with the consultation requirements, the entire excess over £250 per tenant was irrecoverable.

At first instance, the judge (applying the reasoning of Walker LJ in Martin v Maryland [1999]) agreed with the landlord’s interpretation that it is necessary to consider whether the works constitute one or more sets of qualifying works and then to apply a ‘triviality threshold’ (i.e. the £250 contribution cap) to each relevant set.

On appeal, the Chancellor of the High Court disagreed with both the trial judge and Walker LJ’s reasoning in Martin v Maryland. The Chancellor noted that the comments of Walker LJ pre-dated changes to the consultation procedure introduced by the Commonhold and Leasehold Reform Act 2002 and reflected the position at a time when the limit was by reference to the cost of the works (as opposed to the amount of contribution demanded from the tenant). It was held that, as service charge contributions are payable on an annual basis, the limit should be applied to the qualifying works carried out during the service charge year and further that, under current legislation, there is no ‘triviality threshold’ in relation to qualifying works.

The effect of the judgment is that a prudent landlord should now consider consulting on all qualifying works, even where the cost will not require a contribution exceeding £250 per tenant. By way of illustration, if the landlord undertakes works requiring a contribution of £200 per tenant, failure to consult in relation to those works will limit the landlord to demanding no more than £50 per tenant in relation to any additional works undertaken in the same service charge year (regardless of the cost of the additional works).

Daejan Investments Ltd v Benson

A landlord gave notice to its tenants that it intended to carry out major works costing nearly £280,000 but failed to carry out all of the steps prescribed in the consultation procedure. Although failure to comply typically results in the tenants’ annual service charge contributions being capped, the Landlord and Tenant Act 1985 (as amended) allows the Leasehold Valuation Tribunal (LVT) to dispense with the requirements if it is reasonable to do so.

The Court of Appeal upheld the LVT’s refusal to grant dispensation from compliance and restricted the liability of the tenants to £250 each. By a majority of 3-2, the Supreme Court overturned the decision of the Court of Appeal.

The Supreme Court held that the question to consider was not whether the procedure had been complied with but whether, if dispensation was granted, the tenants would suffer any relevant prejudice. The Supreme Court acknowledged that the right to be consulted is not a free-standing right and that, other than in relation to prejudice caused, it is wrong to distinguish between a serious failing and a minor oversight. In this instance, the landlord’s offer to reduce the costs of the works recovered through the service charge by £50,000 was considered to exceed any possible relevant prejudice of the tenants.

The dissenting judgments argued that the degree of seriousness of the failure to comply with the consultation requirements should be taken into account irrespective of the degree of prejudice caused.

Comments

The decision in Daejan Investments Ltd v Benson is a welcome one for landlords, as it reduces the risk of huge financial loss caused by failing to comply fully with the consultation requirements, provided that the tenants are appropriately compensated for any prejudice suffered as a result of that failure.

However, the decision in Phillips & Goddard v Francis is worrying for landlords. Prior to the judgment, it was widely accepted that the need to consult only applied if a contribution in excess of £250 per tenant was likely to be required in respect of a particular set of works. Now, landlords should consider consulting on all qualifying works where the aggregate of all qualifying works during a service charge year is likely to result in a total contribution in excess of £250 per tenant. The landlord is appealing against the decision and the British Property Federation (BPF) has voiced its concerns in an open letter to the court. The BPF say the judgment will require landlords to consult unnecessarily and much more frequently than they presently do, which in turn will not only delay essential works but, ultimately, drive up service charges for residential tenants due to the additional consultation costs involved.

The BPF also suggest that the decision in Phillips & Goddard v Francis could prompt a dramatic increase in dispensation applications to the LVT, which applications will be impacted by the decision in Daejan Investments Ltd v Benson. Unless and until the decision in Phillips & Goddard v Francis is challenged, overturned or corrective legislation implemented, there is likely to be uncertainty as to its full implications. In the meantime, landlords and managing agents are advised to consider consulting on all qualifying works, even where (a) the cost of separate, individual qualifying works will not require a contribution exceeding £250 per tenant and (b) no additional qualifying works are currently planned or foreseen in the same service charge year.