Charles Knapper and others (members of the Point Curlew Tenants’ Association) v (1) Martin Francis (2) Rebekah Francis [2017] UKUT 003 (LC)

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“The main issue in this appeal is whether, in determining the reasonableness of an amount demanded on-account of relevant costs before they were incurred, a tribunal was required or permitted by section 19(2) to take into account facts which were not known at the date of the demand but became known only later”. So spake Martin Rodger QC, introducing this appeal.

In the far distant future, when we are all creaky, grey and venerated property people ensconced in our rocking chairs beside the fire with a blanket across our knees, our successors will ask us to tell them story of the St Merryn Holiday Park. When we do, they smile indulgently at each other, humouring what they perceive to be our embellishment of the story.

And yet there will be no embellishment, for we will faithfully recount the decisions and judgments that began in 2010 with a dispute about whether a holiday chalet is a “dwelling” for the purposes of section 18 of the Landlord and Tenant Act 1985, and continue into 2017 with a dispute about the date at which the reasonableness of an estimated service charge demand should be assessed. Yes, this is another dispute arising at the holiday park that gave us Phillips v Francis.

Well-drafted service charge machinery requires a lessee to make a payment on account of service charge expenditure to be incurred by a landlord, with provision for a balancing charge or credit at the end of the service charge year, generally after accounts for that expenditure have been prepared.

The matters contained in that service charge machinery are contractual and agreed. They are however subject to section 19 of the 1985 Act, by which the parties are bound, irrespective of their wishes.

You can read the full text of section 19 here.

The particular questions before the Upper Tribunal were these:

  • Where an advance demand is made, and it subsequently transpires that some of the costs forming the basis of the demand are not incurred, is the FTT entitled to take that fact into account when deciding whether the on-account demand is reasonable?
  • If not, does the reference to “any necessary adjustment” in section 19(2) modify a leaseholder’s contractual obligation to pay a sum which was reasonable at the time it was demanded?

The application and the identity of the applicant

The Point Curlew Tenants’ Association applied to the FTT for a determination of the liability of lessees to pay on-account service charges. The Association represents the lessees of holiday chalets on the Atlantic Bays Holiday Park at St Merryn, Cornwall.

The identity of the applicants was the first point to concern the Upper Tribunal. Whilst the FTT had accepted the Association as the applicant, Martin Rodger QC was not so hasty: the Association was unincorporated and had no legal personality. It was therefore incapable of conducting legal proceedings.

The names of the 95 individuals who wished to be parties to the appeal therefore replaced the Association as appellant.

The Atlantic Point Holiday Park

The freeholders of the Park are well-known, being Mr and Mrs Francis of Phillips v Francis [2015] 1 WLR 741, the “most celebrated battle in a long-running dispute between the owners of the Park and the members of the Association”.

Mr and Mrs Francis bought the freehold of the holiday park in April 2008. There is nothing unusual about it. It was built on the site of a disused military base, and contains 171 holiday chalets, all let on 999 year leases. There is a separate area for visiting caravans, an amenity centre and other buildings and facilities including a children’s play area.

The leases

The leases were all in the same form. They required the lessees to make one on-account service charge payment per year, on 31 December, towards costs to be incurred by the landlords in providing services at the park over the following calendar year. The services included management of the park, and the repair and maintenance of common parts.

The lease required the payment to be an amount that the landlord might “reasonably require on account”, and to be credited against the actual amount that the lessee was liable to pay after the service charge accounts had been prepared.

The service charges

Here is a short overview of the service charge position at the park up to 2015:

  • In 2007 the service charge was £1,478 per lessee;
  • In December 2008, Mr and Mrs Francis demanded £3,117.47 on-account for 2009, the first full year of their ownership. That demand took them to the Court of Appeal and the judgment handed down on Halloween 2014;
  • By then, landlords and lessees had settled the majority of their disputes on the 2008 and 2009 service charges, and applications for a determination of the service charges payable for 2010 to 2014 were stayed;
  • The landlords then demanded £2,411.47+VAT for the 2015 service charge year. None of the appellant lessees paid that demand. They applied to the FTT for a determination of its payability and reasonableness;
  • The FTT decided the application in January 2016, after the end of the year of account to which the budget and on-account demands related.

The FTT’s decision

In the light of the other, as-yet-undecided applications for the 2010 to 2014 service charge, the FTT treated the 2015 as a “stand alone year, unaffected by the past”.

It handed down its decision on 31 March 2016. Amongst other things, it decided that the lessees were liable to pay the amounts demanded for two items for which everyone knew that no costs had actually been incurred, because the hearing had taken place after the service charge year end. Those two items were:

  • The salary, pension contributions and overheads of employing a new site manager at a budgeted cost of £50,000;
  • Refurbishment of the park’s play area, budgeted at £36,000.

Whilst the FTT did not remove those two items from the amount payable by the lessees, it did reduce the budgeted amount for a site manager from £50,000 to £35,000, and applied several other reductions to the overall budget.

In Martin Rodger QC’s words: “The FTT clearly intended by this passage to indicate its view that post-liability events were not to be taken into account in determining the reasonableness of the sum demanded on-account”.

Permission to appeal

The Upper Tribunal granted permission to appeal on condition that the lessees paid £1,287.52, which was the amount of expenditure that the landlord had actually incurred per lessee.

Issue 1: What information can be taken into account under section 19(2) when determining a reasonable sum payable on account?

The parties adopted opposing positions:

  • The landlord argued that the FTT should only take into account information known to the landlord when it set its annual budget;
  • The lessees argued that the FTT should take into account everything known at the date of the determination.

Martin Rodger QC did not stand squarely with either, although his view was more closely allied with the landlord.

He went back to basics.

Section 27A and on-account service charges

The FTT is empowered, on an application under s.27A of the 1985 Act in relation to on-account service charge demands, to determine the amount that is payable and the date on which it is payable.

Carey Morgan v de Walden [2013] UKUT 0134 (LC) sets out the correct, two-stage approach to determining such an application:

  • First, the contractual entitlement must be established, and
  • Secondly, the FTT must consider whether the section 19(2) filter prevents the landlord from including any part of the amount demanded on the basis that it is greater than is reasonable.

Stage 1

In this case, on 31 December each year, the lessees were required to make an on-account payment towards the landlord’s budgeted expenditure. That much was agreed.

Stage 2

The effect of section 19(2) is, as Martin Rodger QC noted: “to modify the contractual obligation so that no greater amount than is reasonable is payable before the relevant costs are incurred”.

He continued: “The language of the subsection suggests that the statutory ceiling applies at the time the leaseholder’s liability arises. If, at that date, the on-account payment is greater than a reasonable sum, the leaseholder’s contractual obligation is to pay only the lesser, reasonable, sum”.

What the FTT did

The FTT made its decision in March 2016.

At that time, it determined that the budgeted £50,000 for a site manager was too high – aka unreasonable – and reduced it to £35,000.

In Martin Rodger QC’s view, it would have made the same decision had it been asked to do so at the beginning of the service charge year in January 2015, because at that time it could only have taken into account factors which had fed into the preparation of the budget.

The lessees’ contractual liability to pay arose once, on 31 December. That liability could not be increased or decreased as a result of any changes to the budget occurring after that date, even if reasonable.

Focusing on the date when contractual liability to pay arose, Martin Rodger QC held that the FTT was right to have disregarded any issues which may have hoven across the horizon after that date. Those issues could not turn what had been a reasonable amount into an unreasonable amount.

“The question of what sum ought reasonably to be paid on a particular date, or ought reasonably to have been paid at an earlier date, necessarily depends on circumstances in existence at that date, and should not vary depending on the point in time at which the question is asked”, he observed.

Parker v Parham (2003) LRX/35/2002 is a useful reminder that if there is doubt over the time at which the proposed expenditure may be incurred, or whether it may be incurred during the relevant accounting period at all, it may not be reasonable to require the whole payment in advance.

Curwen

Having decided issue 1, Martin Rodger QC allowed himself to reminisce. The lessees’ argument that the FTT should take later events into account reminded him of “a principle familiar in the law of compensation and expressed pithily by Harman LJ in Curwen v James [1963] 1 WLR 748 that “a court should not speculate when it knows.””

Curwen was a case under the Fatal Accidents Act, a far cry from service charge disputes.

The Upper Tribunal does however apply the “do not speculate” principle in the assessment of compensation for disturbance where property is compulsorily purchased. In those cases, the amount of compensation payable reflects the facts as they are known on the date when the amount of compensation is quantified.

Bwllfa

The “do-not-speculate” principle is more elegantly known as the “Bwllfa principle”. In Bwllfa and Merthyr Dare Steam Collieries (1891), Limited v The Pontypridd Waterworks Company [1903] AC 426, a mine owner was prevented from working its mine by a statutory undertaker, and the value of coal rose after the undertaker’s intervention.

In the House of Lords, Lord MacNaughten explained how compensation in a compulsory purchase case should be calculated:

“If the question goes to arbitration, the arbitrator’s duty is to determine the amount of compensation payable. In order to enable him to come to a just and true conclusion it is his duty, I think, to avail himself of all information at hand at the time of making his award which may be laid before him. Why should he listen to conjecture on a matter which has become an accomplished fact? Why should he guess when he can calculate? With the light before him, why should he shut his eyes and grope in the dark?”

Golden Strait Corp

The House of Lords applied the same principle the 21st century, in Golden Strait Corp v Nippon Yusen Kubishka Kaisha [2007] 2 AC 353.

In that case, damages for repudiatory breach of contract were adjusted to take account of the events post-dating the breach. One of those events was the outbreak of the second Gulf War. The contract contained a war clause, and would probably have cancelled the contract when war broke out.

Martin Rodger QC summarised the policy behind the assessment thus:

“Considerations of certainty and finality were made to yield to the greater importance of achieving an accurate assessment of the damages based on the loss actually incurred”.

Damages v the FTT’s determination

His small detour into the world of compensation in compulsory purchase at an end, Martin Rodger QC made it clear that there was little to connect Bwllfa and Golden Strait Corp with the FTT’s application of section 19(2) of the 1985 Act.

“[In Bwllfa and Golden Strait Corp] the issue depended on principles of the law of damages, whether in contract or tort. Damages are intended to compensate the victim of a breach of contract or duty of care for the loss they have suffered as a result and the principles of the law of damages are adapted to that context. That context is very different from the task of a tribunal applying section 19(2) of the 1985 Act. No relevant question of breach arises in this case…”, said he.

There were three significant grounds as to why it was inappropriate to apply the Bwllfa principle to a decision relating to the reasonableness of a sum due under a contract. They were:

  • Certainty;
  • Predictability, and
  • The effective operation of service charge arrangements.

On the last of these, he observed that it was important that a landlord be able to collect money in order to fund future service provision, for the benefit of both landlord and tenant. Parliament’s purpose in enacting section 19(2) was to “do no more than protect leaseholders from unreasonable demands”.

The self-fulfilling prophecy

It was suggested by the landlord that, were it open to lessees to challenge an on-account demand by reference to actual expenditure, an on-account demand could become unreasonable simply by the lessees refusing to pay, thereby cutting off a landlord’s income and ability to provide services.

Diplomatically, Martin Rodger QC responded: “The FTT made no finding to that effect and the facts of this case are no doubt exceptional, so I do not place great weight on [the] suggestion that leaseholders generally might seek a tactical advantage by refusing or delaying payment, in the belief that they may eventually avoid liability”.

From his perspective, the goal was stability. The goal posts should not move depending on events that could not be known when the on-account payment was due.

Matters not known to the landlord

In this next part of his decision, Martin Rodger QC closed down any suggestion that a landlord was entitled to recover budgeted sums of any amount.

The FTT was empowered, on a section 19(2) determination, to take into account matters not known to the landlord. So, for example, where Mr and Mrs Francis had allowed £50,000 for their site manager, but did not know that a site manager could actually be employed for considerably less, the FTT was entitled to take that fact into account.

Equally, between the drawing up of the budget and the date when the lessee was liable to pay, “matters” may become known that would have an impact on the reasonableness of the sum to be paid.

That latter situation was unlikely to happen at the holiday park, because the lessees were required to make just one on-account payment before the start of the service charge year.

Quarterly and biannual liabilities

The majority of leases however require quarterly or biannual payments. This, controversially, is what Martin Rodger QC had to say about the reasonableness of those on-account payments:

“In such cases the fact that money has not been spent, despite provision having been made in an annual budget, may cause a sum which appeared reasonable on the first payment date to become less reasonable (for example where major works requiring periodic payments are delayed). I do not see why, in such a case, section 19(2) should not modify the contractual obligation by reference to circumstances as they are known at the quarterly or half-yearly payment dates. But I would draw a line at the date on which the payment becomes due and would exclude from consideration matters which could not have been known at that date, because they had not yet occurred”.

Resolution of issue 1

Drawing together the threads, Martin Rodger QC concluded that the FTT had been right to allow the full budgeted cost of the play area works and a reduced amount for the site manager, despite the expenditure not having been incurred on either item by the end of 2015. In short:

“The reasonable sum required as a payment on-account did not retrospectively become an unreasonable sum once it became clear that the expenditure had been avoided”.

Issue 2: Necessary adjustment?

Matters did not however rest there, because the lessees relied on the final clause of section 19(2) in support of their contention that they should be reimbursed by the landlord where it transpired that the landlord spent less than had been paid on-account.

That final clause reads:

“after the relevant costs have been incurred any necessary adjustment shall be made by repayment, reduction or subsequent charges or otherwise”.

Unfortunately for the lessees, Martin Rodger QC gave this argument rather short shrift. Whatever its purpose, section 19(2) did not empower the FTT to direct the landlord to reimburse any part of lessees’ on-account payments where the landlord spent less than it had received on-account.

The key here was the meaning of “service charge” in section 18 of the 1985 Act: it is an amount paid by a lessee, not a landlord:

  • The only power that the FTT enjoyed under section 27A was to decide how much service charge is payable, and
  • It is section 27A that gives the FTT the power to decide the amount of service charge payable, and section 19(2) does not broaden that power.

The mystery

What then is the purpose of that final clause of section 19(2)? Martin Rodger QC was not sure.

In Commercial and Residential Service Charges, the authors suggest that it may be a statutory device to ensure that credits/balancing charges are recoverable, but that generally the lease makes provision for just such adjustments, so the clause is rather otiose for most.

On the other hand, it may be a signpost as to the time at which credits or balancing charges are recoverable, that time being after the service charge costs have been incurred.

“In any event”, said Martin Rodger QC, closing the door to the lessees’ case, “I am not persuaded that the provision allows any role for the FTT”.

In case of error

He then locked the door to the lessees’ argument, holding that even if section 19(2) did allow the FTT to “relieve the appellants of their contractual liability to make the payments which the FTT considered to be reasonable”, he would not make any adjustments in the case before him.

That was because the state of each lessee’s service charge account was – ahem – “wholly unclear” as a consequence of the litigation which concluded on 31 October 2014. The amount payable by the lessees from 2008 to 2014 was subject to determination by the FTT, and the 2015 accounts had not yet been produced.

Once the parties knew the position for those years, the amount payable to or by the lessees could then be calculated, and any appropriate adjustment made to on-account payment demands.

Disposal of the appeal

The appeal was therefore dismissed, and the lessees’ liability for the amount determined by the FTT confirmed.

Observations

Conditional permission to appeal

It is rare that the Upper Tribunal grants conditional permission to appeal in a service charge matter.

Unlike the FTT however, it does have such a power. It is contained in both the Tribunal Procedure (Upper Tribunal) (Lands Chamber) Rules 2010 at rule 23, and in paragraph 4.3 of the Practice Direction to those Rules.

Is this a radical decision?

On its face, this decision makes complete sense – the simple passage of time should not render unreasonable a demand that was reasonable at the date when it was made.

And yet I am bothered by Martin Rodger QC’s indication that items reasonably included in a budget at the beginning of the service charge year might be unreasonably included or unreasonable in amount by the time, say, that a third quarterly payment falls due.

Plainly it is important to keep a budget under review, but Martin Rodger QC seems to indicate that, once section 19(2) is applied, a lease that requires a lessee to make four equal quarterly payments may not actually mean that those payments are equal.

If the adjustment is downwards, I anticipate that few lessees would be unhappy, although their primary challenge would be in ascertaining the state of play at any given time.

There is no litigation-free mechanism by which a lessee can find out, in the course of a service charge year, whether the costs have been incurred. Section 21 of the 1985 Act only applies to completed service charge years, and can in any event only be enforced by prosecution, and not by a civil action for an injunction.

The only way that the lessee can find out if a landlord has incurred costs part way through the year therefore is by making a section 27A application, and that application is unlikely to be determined for a number of months – possibly not until after the end of the service charge year.

But what about an adjustment upwards if unexpected expenditure is needed and the budget is increased? Taken with Thomas Homes Ltd v Macgregor [2016] UKUT 0495 (LC) does this case put the goal posts on skates?

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