Rather like the gyrfalcon to Great Britain, reserve fund disputes are not regular visitors to the Upper Tribunal.
This case is one of those rare visitors.
The gyrfalcon? Thank you Springwatch.
18 Maddox Street
We tread the smart streets of Mayfair here.
The property at 18 Maddox Street is about 100 years old, but was converted in about 2007 to create ground floor commercial units and four residential upper floors.
The ground floor units were let by the freeholder, Pollen Estate Trustee Company Limited, to commercial tenants.
The whole residential section on the upper floors was let under a headlease of the internal, non-structural parts to Southern Land Securities Ltd.
Mr Balkhi was the long underlessee of flat 6.
Pollen retained the exterior and structure of the building, and demised only the internal parts of both commercial and residential accommodation.
Under the terms of the headlease, Pollen covenanted:
- To keep the exterior and structure of the building “in good repair and condition and in whole or in part to rebuild or renew the same in so far as necessary to keep the same in good and substantial repair and condition;
- “From time to time as often and in such manner as the Landlord shall reasonably consider desirable or necessary to redecorate treat clean and preserve the exterior of the Building.”
Southern Land Securities, as lessee under the headlease, was obliged to pay Pollen a service charge, including an estimated, on-account service charge.
The service charge payments included contributions towards:
- Pollen’s costs of complying with the two covenants above, and
- A reserve fund, which appears to been included in a category of expenditure entitled “Landlord Estate Charge”.
Under the underlease, Southern Land Securities was bound: “… to use all reasonable endeavours to procure [Pollen] to carry out provide manage and operate the Services.” (sic)
Mr Balkhi, as underlessee, was also obliged to pay a service charge. He paid it to Southern Land Securities as his landlord. The service charge included:
The costs of maintaining in good and tenantable repair and condition the main structure of the building, including external & certain internal decorations, and
The setting aside of “such sums of money as the Landlord shall reasonably require to meet such future costs as the Landlord shall reasonably expect to incur in replacing maintaining and renewing those items which the Landlord have hereby covenanted to replace maintain or renew (such sums set aside to form a sinking fund).”
It is worth making a note to self here: the Landlord in the underlease is Southern Land Securities. It was not responsible for the maintenance and repair etc of the exterior and structure of the building – that was Pollen’s job.
The proportion payable
Mr Balkhi’s service charge was 20.04% of Southern Land Securities’ “Total Expenditure”.
“Total Expenditure” was defined as “the total expenditure incurred or payable by the Landlord in any Accounting Period in carrying out its obligations under this Underlease including … all costs and expenses payable to the Superior Landlord under the Head Lease in respect of insurance and services relating to the Building and any other costs and expenses reasonably and properly incurred in connection with the Building…”
The county court claim
From 2011 onwards, the amount of the Landlord Estate Charge increased, and Mr Balkhi took issue with it. In short, he refused to pay it.
Southern Land Securities therefore issued a claim in the Northampton County Court. It claimed £11,815.51 in respect of unpaid service charges and ground rent.
Once the claim had been issued and a defence filed and served, it seems that the case fell into District Judge’s box work.
On 04 February 2015, District Judge Johnson ordered that “the matter be transferred to the Leasehold Valuation Tribunal”, and so it was – or at least transferred to the First-tier Tribunal.
We forgive the county court for being just eighteen months behind the times. There is so much going on in the court system at present that ignorance of the existence of the FTT is genuinely understandable.
The FTT’s decision
The parties agreed that the FTT should determine the case on paper, without hearing oral evidence or submissions.
Unfortunately, the FTT was confused by the way in which the parties presented the case, but it battled on.
- It decided that it was the reasonableness of the Landlord Estate Charge that was at the heart of the dispute;
- It noted that Southern Land Securities’ surveyor had prepared a report which appeared to suggest that the exterior needed “extensive and expensive” works, but
- Having struggled valiantly with the figures, it was unable to reconcile the claim for £11,815.51 with the figures attached to Southern Land Securities’ claim.
- It did however manage to reach a decision.
The surveyor’s report appears to have played a significant role in that decision because the FTT allowed the amounts claimed by Southern Land Securities, in full, on the basis that:
- It was reasonable to build up a sinking fund for the maintenance of the structure and exterior of the building;
- It was reasonable for Southern Land Securities to collect a relatively substantial sum of money towards the costs of carrying out planned repairs, and
- Contrary to arguments made by Mr Balkhi, consultation requirements must be complied with when monies held in a sinking fund were spent, as opposed to when they were collected.
The FTT was at pains to emphasise that its decision did not give Southern Land Securities carte blanche to continue to charge a high Landlord Estate Charge in the future.
Permission to appeal
The Upper Tribunal granted permission to appeal to Mr Balkhi, observing:
“The First-tier Tribunal’s decision does not determine why the sums required by the landlord for the sinking fund were reasonable.
“In particular it appears to have misconstrued the report of the tenant’s surveyor, which did not indicate any need for extensive or expensive works at present, nor indeed any major repair for another 10 to 15 years.
“The First-tier Tribunal refers to the landlord’s currently planned repairs but there is no indication of what these were nor of the reason why, by reference to those plans, the sums demanded were reasonable.”
The appeal proceeded by way of a re-hearing.
The re-hearing before the Upper Tribunal
The Upper Tribunal, in the shape of HHJ Huskinson and Peter McCrea FRICS, expressed sympathy for the FTT’s tussle with the case.
“At the outset of the hearing before us we enquired of the parties what precisely were the matters which were before us for decision”, said HHJ Huskinson.
That was perhaps not the wisest question to ask, because the parties treated it as an invitation to raise new arguments, which the Upper Tribunal was unable to admit because they exceeded the ambit of the permission to appeal.
Ultimately however, a consensus was reached, and everyone agreed that the only issue before the Upper Tribunal was:
“The extent (if at all) that [Southern Land Securities] was entitled to recover from [Mr Balkhi], as part of the service charge for the accounting years 2011, 2012 and 2013, an amount in the respect of the sum paid by the respondent to Pollen which was referred to as the Landlord Estate Charge”.
The parties also identified the annual Landlord Estate Charge paid by Southern Land Securities and passed on to the residential lessees:
- For 2011, it was £25,397.56
- For 2012, £16,691.80, and
- For 2013, £19,648.53.
An appeal by way of re-hearing is what it says on the tin – it is a complete re-hearing of the application made to the FTT.
Mr Balkhi gave oral evidence, and relied on two reports.
The first was by Mr D Rogers MRICS, a building surveyor who had inspected the building on 18 June 2013. Mr Rogers did not give evidence in the FTT.
The second was dated 20 December 2015, from James Barry, Chartered Surveyors.
Neither report contained the normal declaration acknowledging the expert’s duty to the court/tribunal, set out in paragraph 8.2 of the Upper Tribunal’s Practice Direction.
In February 2016, the Upper Tribunal directed that if Mr Barry was going to attend to give evidence he should annex that declaration to his report.
That did not happen, nor did Mr Barry attend the Upper Tribunal hearing to give evidence. Mr Balkhi informed the Upper Tribunal that Mr Barry was unwell on the day.
Southern Land Securities
Southern Land Securities did not call any oral evidence. It relied on two witness statements prepared by Mr Brendan Milward, an employee in its legal department.
Those statements were before the FTT, and served the principal function of exhibiting documents, rather than setting out any narrative or expertise in relation to the building.
The Upper Tribunal’s decision
The Upper Tribunal began its substantive decision with a further lament about the lack of detail in Southern Land Securities’ claim.
In the event, it arrived at figures it was content to work with through a combination of agreement between the parties and its own determination, but, said HHJ Huskinson:
“It is unclear how the amount claimed in the County Court proceedings in the sum of £11,815.51 is made up.”
The description of the failings in the claim makes for helpful reading in terms of what the Upper Tribunal expects to see in a county court claim for service charge arrears:
- The amount that is allegedly due;
- When it became due;
- How it is calculated, and
- The basis on which it is said to be payable.
The claim should then be supported by documents capable of producing figures that match the overall claim.
£25,397.56: Landlord Estate Charge paid by Southern Land Securities to Pollen. A proportion of that payment constituted a contribution to Pollen’s sinking fund.
£5,087.67: 20.04% of the Landlord Estate Charge, demanded from Mr Balkhi as part of his service charge.
Mr Balkhi did not pay the £5,087.67, although he paid all the other elements of the service charge demanded from him by Southern Land Securities.
Southern Land Securities included the £5,087.67 in its county court claim.
£16,691.80: Landlord Estate Charge paid by Southern Land Securities to Pollen. Again, a proportion of that payment was a contribution to Pollen’s sinking fund.
£3,345.04: 20.04% of the Landlord Estate Charge, demanded from Mr Balkhi as part of his service charge.
Mr Balkhi did not pay that £3,345.04, but again paid all the other elements of the service charge demanded from him by Southern Land Securities.
Southern Land Securities included the £3,345.04 in its county court claim.
£19,648.53: Landlord Estate Charge paid by Southern Land Securities to Pollen. Again, a proportion of that payment was a contribution to Pollen’s sinking fund.
£3,937.56: 20.04% of the Landlord Estate Charge, demanded from Mr Balkhi as part of his service charge.
Mr Balkhi did not pay that £3,937.56, although he paid all the other elements of the service charge demanded from him by Southern Land Securities.
Southern Land Securities included the £3,937.56 in its county court claim.
A short calculation
The total amount that Mr Balkhi had withheld in the years 2011, 2012 and 2013 was £12,370.27.
That was more than the £11,815.51 claimed in the county court proceedings, which also included a claim for ground rent arrears, over which the FTT and Upper Tribunal had no jurisdiction.
The case having been presented to the Upper Tribunal as a year by year accumulation of service charge arrears, HHJ Huskinson and Mr McCrea dealt with it in that way, leaving the parties to make any relevant applications to amend the county court claim to the county court.
The parties’ input was needed not only in respect of the breakdown of the claim, but also in connection with the nature of the sums claimed: were they on account payments or final service charges calculated after the end of the service charge year?
The Upper Tribunal considered the position:
- The service charge year ran from 01 January to 31 December;
- The claim was issued in August 2013;
- It was therefore not possible for the money demanded for 2013 to be anything other than an on account demand, and
- There was nothing in the paperwork to suggest that there was any difference in the nature of the three years’ demands.
- It concluded that all of the demands must be on account demands.
Liability to pay
The Upper Tribunal was unswayed by Mr Balkhi’s argument that his liability to pay into a sinking fund could only arise under the clause in the underlease which expressly referred to Southern Land Securities collecting a sinking fund for its own purposes.
“We consider that sums properly payable by Southern Land Securities to Pollen under the headlease can properly be charged to Mr Balkhi through the service charge … notwithstanding that such payments include a payment towards Pollen’s sinking fund”.
The definition of Total Expenditure was the gateway through which such expenditure could be passed to Mr Balkhi.
Here is that definition again:
“Total Expenditure” was “the total expenditure incurred or payable by the Landlord in any Accounting Period in carrying out its obligations under this Underlease including … all costs and expenses payable to the Superior Landlord under the Head Lease in respect of insurance and services relating to the Building and any other costs and expenses reasonably and properly incurred in connection with the Building …”
The burden of proof
Without expressly referring to it, or to the authorities which consider it, the Upper Tribunal determined the appeal by reference to the burden of proof.
It noted that Southern Land Securities, as Mr Balkhi’s landlord, was seeking to recover sums which it had been obliged to pay to its own landlord, and made the following observations:
“In such a case questions may emerge (as here) as to the reasonableness of amounts demanded by the landlord from the tenant by way of on account service charge payments where the amounts demanded are based (in part) upon sums which the landlord has paid over to the freeholder.
“In our view it is not sufficient for the landlord merely to say: I have paid this sum to the freeholder and so it is reasonable for me to recover it from you through the service charge”.
The Tribunal continued:
“In such a case where a tenant raises a question regarding the reasonableness of the amount claimed and where the tenant (as here) produces material suggesting the amount claimed may not be reasonable, then it will be for the landlord to justify the reasonableness of what is claimed.
“This may involve landlord producing evidence – and in producing such evidence the landlord may have to seek assistance from the freeholder or the freeholder’s managing agent so as to justify the reasonableness of the sum which the landlord has paid to the freeholder and a proportion of which the landlord wishes to recover from the tenant through the service charge”.
Turning to the case before it, the Upper Tribunal determined that Mr Rogers’s report was “sufficient to raise a serious question regarding the reasonableness of the disputed sums”.
It noted that it had not received any oral evidence from Southern Land Securities, nor even a witness statement justifying the reasonableness of the amounts claimed from a person with expertise in building maintenance. The only witness statements that it had received were from an employee in the Southern Land Securities legal department.
The Tribunal continued:
“We reject the suggestion that in these circumstances it is appropriate for the respondent, without evidence, to say to the Upper Tribunal: the building is substantial and on a corner in Mayfair so a substantial sinking fund is reasonable and you (the Upper Tribunal) are an expert tribunal and can decide for yourself what is a reasonable sum to include in the service charges demands in respect of the sinking fund contributions”.
It did not however simply dismiss the application for want of evidence.
Instead, it focused on documents drawn up by Drivers Jonas Deloitte and exhibited to the witness statement of Mr Milward, the employee in Southern Land Securities’ legal department.
The Upper Tribunal described Drivers Jonas Deloitte as an “experienced firm of managing agents”.
It emerged from those documents that, for the 2011 service charge year, Drivers Jones Deloitte had projected a sinking fund contribution of £40,000 towards external redecorations, to be carried out in 2012.
The Upper Tribunal therefore adopted £40,000 as a “reasonable sinking fund to build up for the purpose of the prospective external redecoration”.
That £40,000 had however increased, without satisfactory explanation, to £70,000, and without the redecorations being carried out in the timeframe envisaged.
In the Upper Tribunal’s judgment, that sum was not reasonable, nor had Southern Land Securities acted reasonably in simply paying over the money without obtaining an explanation for it.
“We conclude,” said HHJ Huskinson, “that the reasonable amount which [Southern Land Securities] was entitled to seek to recover through the service charge in respect of its contribution to Pollen’s sinking fund over the years 2011, 2012 and 2013 was an amount based upon a £40,000 sinking fund rather than based upon a £70,000 sinking fund”.
Southern Land Securities’ headlease covered only the residential upper floors of the building. Commensurate with that demise, it was liable to contribute towards 63.56% of any whole building costs.
Between 2011, 2012 and 2013, it had therefore paid 63.56% of the total £70,000 paid into the sinking fund for redecoration works. That amounted to £44,492.
The Upper Tribunal had determined however that the sinking fund contributions should have totalled £40,000. Southern Land Securities should therefore have paid 63.56% of £40,000. That would have amounted to £25,424.
Southern Land Securities had therefore:
- Overpaid Pollen by £19,608, and
- Demanded £3,821.23 more than was reasonable from Mr Balkhi. That figure was reached by calculating 20.04% of £19,608.
The amount payable by Mr Balkhi, based on the total amount demanded of him – and not the amount claimed in the county court proceedings – was therefore:
Disposition of the appeal
“Doing the best we can upon unsatisfactory material,” said HHJ Huskinson, “we conclude that the amounts claimed by Southern Land Securities from Mr Balkhi were unreasonably high”.
Even to the end, the Upper Tribunal remained wounded by the poor presentation of the claim.
Some wounds are plainly slow to heal.
There is no earth-shattering revelation in this case, but it highlights a number of small points which, together, focus the mind.
Transfers to the FTT
It is oft said that a case is transferred to the FTT by the county court.
That is not technically accurate. The FTT does not have the same powers as the county court.
For example, whilst the FTT has the power to determine matters of service charge and variable administration charge under section 27A of the Landlord and Tenant Act 1985 and Schedule 11 to the Commonhold and Leasehold Reform Act 2002, it has no power to decide the amount of ground rent or interest payable by a lessee.
Even if a claim is brought solely on the basis of service charge arrears, the part of the claim that is transferred to the FTT is the part that involves assessment of whether those service charges were reasonably incurred, reasonable in amount and completed to a reasonable standard under section 19 of Landlord and Tenant Act 1985.
The part of the claim for an order that the lessee must actually pay the service charge remains in the county court. It too must be dealt with after the FTT’s determination, even if it sometimes seems like tidying up an empty dusty house.
No matter what the court orders at the outset of a case therefore – including transfer to the LVT – a case is never transferred in its entirety to the FTT.
There may indeed be occasions where the matters pleaded in the county court case are sufficiently diverse to justify the service charges being determined in the FTT at the same time as the court deals with the issues that it is better positioned to deal with. A rent review may be such an issue.
That sinking feeling
There is a difference between a sinking fund, a reserve fund and a depreciation charge. All three phrases appear in the Law and Lease Glossary, although “sinking fund” and “reserve fund” tend to be used interchangeably.
Clarity of pleadings
In the summer of 2012, the Upper Tribunal was rather vexed by several appeals where the LVT made decisions that included frolics unforeshadowed at the hearing.
In the course of Birmingham City Council v Keddie, Hill  UKUT 323 (LC), HHJ Gerald was clear that the purpose of pleadings or statements of case or “whatever”, as he put it, is to:
- “Set out the nature and scope of the issues in dispute;
- “Limit the issues in respect of which the parties must adduce evidence in support of their respective cases, and
- “Define the issues in respect of which they seek resolution by the LVT”.
The burden of proof
Reliance on the burden of proof has been described as the last refuge of the desperate.
If you are in need of refuge, the Upper Tribunal’s decision in LB Southwark v Champenois  UKUT 114 (LC) is a good place to start.
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