Sheffield City Council v Oliver – a singular service charge case about double recovery and third-party funding
What does it mean for “fair” apportionment of costs, especially in mixed tenure developments?
Christopher Baker of Arden Chambers, who appeared for the local authority landlord in Sheffield City Council v Oliver [2017] EWCA Civ 225, examines some of the practical implications of the decision for both landlords and leaseholders.
Key points:
- Third-party funding in respect of works is unlikely to be the landlord’s to use at will
- Landlords should carefully check the service charge provisions in their leases as well as the funding agreement before committing third-party funds
- The well-worn phrase “costs incurred” has finally been defined, in a natural sense
- Decisions on apportionment of costs requires clear, detailed consideration and justification
- s.27A LTA 1985 is likely to give the court/FTT the power to decide for itself what is fair
- Mixed tenure developments may give rise to particular problems
- Overall, there seems less certainty and more scope for dispute
In its decision on 4 April 2017, the Court of Appeal held that the words “costs … incurred” in the service charge provisions in a right to buy lease were to be given a natural and not a special meaning; accordingly, the Upper Tribunal had been wrong to hold that such costs were reduced by third-party energy-saving funding received by the landlord from an energy provider in relation to a major works programme; but the Court was required to determine for itself the “fair proportion” of the costs to which the leaseholder was required to contribute, and a deduction was to be made in relation to part of the funding received which was attributable to the leaseholder’s flat.
Background
Sheffield undertook a major refurbishment programme in respect of two of their housing estates and entered into an agreement with a contractor to carry out the works. These included several elements for improving insulation and energy efficiency, including re-cladding the exterior of the blocks and the installation of new boilers and thermostatic radiator valves in flats. The very large majority of flats on the estates were let as social housing, but the respondent and a number of other occupiers were long leaseholders pursuant to the right to buy.
After works commenced, Sheffield entered into a separate agreement with an energy provider, Npower, pursuant to the Community Energy Savings Programme (“CESP”) which had been established by the Electricity and Gas (Community Energy Saving Programme) Order 2009 (SI 2009/1905) as part of the Government’s Home Energy Saving Programme. The CESP Order and the Npower agreement operated by reference to certain defined areas only, ie areas of identified deprivation. Parts of the estates, either whole blocks or parts of blocks, were outside these areas.
The Npower agreement provided for Sheffield to receive funding, subject to certain conditions, for carrying out works which assisted Npower meeting its target under CESP. The payments were for certain specific items of work (“physical measures”) – including the re-cladding, new boilers and radiator valves – but also “bonus” incentives which depended on either two or more items being carried out to a particular flat (the “whole house bonus”) and/or works within the relevant area being provided to a minimum proportion of domestic energy users (the “area intensity bonus”). No payments were due in respect of works completed after a given date, although the works done by the contractor to some blocks and/or flats were expected to and did continue beyond that date.
Sheffield decided not to credit to long leaseholders in general, in calculating their service charges, any payments received from Npower because the flats of some leaseholders fell outside the CESP areas and/or works in respect of some flats were not expected to be and/or did not come to be completed within the required period. Instead, Sheffield decided not to charge leaseholders at all for certain costs, including the installation of the new boilers and valves, and professional fees. To the extent that Sheffield received funding from Npower, this freed up Sheffield’s own resources to be spent on providing other benefits across the estates.
Applications to determine matters in relation to service charges were made to the Leasehold Valuation Tribunal by the leaseholder and by Sheffield. The leaseholder was unsuccessful in seeking to reduce the amount of the service charge being demanded. On her appeal to the Upper Tribunal, she was again largely unsuccessful; but it held (Martin Rodger QC, Deputy President of the Lands Chamber, and Mr PD McCrea FRICS, [2015] UKUT 0229 (LC) and [2015] UKUT 0494 (LC)) that, although it was not suggested Sheffield had made a profit, costs sought to be recovered through the service charge were not “incurred” for the purposes of the lease to the extent that Sheffield received funding from Npower for physical measures to her flat and in relation to 50% of the whole house bonus, but none of the area intensity bonus; and accordingly the leaseholder should be credited with these amounts. Sheffield appealed with the permission of the Deputy President, having contended that among the methods for avoiding a profit being made from the service charge there was provision in the lease for it to be a “fair proportion” of the costs.
In Windermere Marina Village Ltd v Wild [2014] UKUT 0163 (LC); [2014] L&TR 30 and Gater v Wellington Real Estate Ltd [2014] UKUT 0561 (LC); [2015] L&TR 19, the Deputy President had previously held that provision in leases for the service charge to be a fair proportion of costs as determined by the landlord’s surveyor was void by reason of s27A(6) Landlord and Tenant Act 1985, ie as an ouster of jurisdiction. Accordingly, s27A required the court or tribunal to determine the fair proportion for itself.
Decision
The Court held:
(1) As a matter of construction of the lease, the correct starting point was that reasonable parties in the position of Sheffield and the leaseholder could not sensibly have intended that its service charge provisions permitted Sheffield to make double recovery, the prospect of which was by no means limited to payments under the CESP scheme; it was no answer that s20A Landlord and Tenant Act 1985 made express provision for deducting some forms (only) of grant payment, because this might more sensibly be regarded as a belt and braces provision; accordingly, a way had to be found to prevent all forms of double recovery.
(2) It was, however, more difficult to identify an appropriate means of doing so; the choice seemed to lie between either (i) giving a particular meaning to the words “costs … incurred”, (ii) treating “actual costs, expenses and outgoings” as limited to those which left Sheffield out of pocket or (iii) treating the avoidance of double recovery as a matter to be taken into account when determining a fair proportion of the incurred costs to be paid by the leaseholder; no one of those alternatives was obviously to be preferred.
(3) (Per Briggs and Longmore LJJ) On balance, however, the third alternative was to be preferred: although the wording in the lease required a fair proportion to be “based upon” a comparison of rateable values or some other formula, this was no more than a starting point, leaving room for further adjustments of a proportion mechanically derived from that formula; avoiding double recovery may not lend itself to a simple mechanical deduction, as the UT itself found when trying to decide whether all, none or part of the whole house bonus should be deducted; accordingly, although the UT was right to treat the avoidance of double recovery as a necessary objective, it was wrong to do so by invoking a special rather than natural meaning of the word “incurred”.
(4) It became necessary for the Court to determine the fair proportion; Windermere Village Marina and Gater were correctly decided, there being a distinction between a determination to be carried out in prescribed manner (for example by a person exercising a discretion, which fell foul of s27A(6)) and a determination which was the only possible application of an agreed formula (which did not); determination of a fair proportion required Sheffield to give credit for the relevant parts of the CESP funding received in relation to, and only by reason of, the works carried out in respect of the flat; a full deduction was required in relation to the cladding but none in relation to the boiler or valves, as the cost of the latter was not charged to the leaseholder; no part of the area intensity bonus needed to be deducted; the fair apportionment of the whole house bonus was slightly more difficult but, in the circumstances, the Court should not depart from the UT’s apportionment since it was within the range of fair outcomes available to the decision-maker.
(5) (Per Lewison LJ) More weight was to be given to the second alternative and the actual cost to the landlord had been reduced by the amount paid by Npower.
Comment
As the evidence in the case showed, Sheffield had given careful consideration to the manner in which the CESP funding was to be used. This included the anticipated difficulty, if any part of the funding was to be credited to leaseholders, of explaining easily and convincingly to them why some, even within the same blocks, would not be entitled to any credit because either their flats fell outside the CESP areas or works were not completed within the third-party’s required period, whereas their immediate or close neighbours would receive a credit. A yet further difficulty was that most of the funding was paid in respect of the bonuses, parts of which could not be attributed to specific flats or to works for which any service charge was intended to be levied.
Despite the consideration which Sheffield had given to this, however, and their decision not to charge leaseholders for some works and costs which could otherwise have been charged, this case demonstrates how the expanding reach of the court or tribunal under s27A presents a real risk even for well-intentioned and responsible landlords. The significance of the power to unpick and then evaluate afresh how the apportionment of costs is to be carried out should not be under-estimated. Decisions about how costs are spread may be just as significant in scale as decisions to incur expenditure and to choose between different cost or service options. A landlord’s entire budgeting and accounting process can be overturned by a court or tribunal which, on a snapshot, takes a different view of what is “fair”.
The dilemma is likely to be particularly acute in the case of mixed tenure developments, whether these are a combination of social and leasehold housing (as in Sheffield’s case) and/or residential and commercial premises (as in the Windermere Marina Village case). Here the interests of the distinct groups of occupiers can be starkly different. Each will naturally be keen to pay as little as possible and that the other(s) pay as much as possible. Sheffield took a broad “political” decision, seeking to appeal to residents in general in delivering wider improvements to the estates as a whole. It takes only one dissenting leaseholder, however, to upset the applecart.
All of this serves to emphasise that landlords – especially the larger organisational ones for whom national schemes like CESP became so relatively popular – cannot usually treat any third-party funding which they may secure as being theirs to use as they may choose. A temptation to do so may arise from the fact that leaseholders may have played no part at all in securing the funding. The Court of Appeal’s reliance on the somewhat elusive concept of “double recovery”, however, places a check where any attempt is to be made to recover costs from leaseholders through a service charge: in practice, the landlord will then have to account for the third-party funding. The amount, the terms on which it has been obtained and how it has been used will all have to be explained.
This exercise will throw attention back onto the precise terms of the service charge provisions in the lease. Will these and the third-party funding arrangement result in the landlord having “incurred” costs, as in the Sheffield case? Or might they indicate that the funding arrangement protected or absolved the landlord from incurring all or part of the costs? Furthermore, if costs were incurred, what mechanism does the lease contain for apportionment? Is this a simple formula (such as rateable value or equivalent), in that case s27A should not afford the court or tribunal with jurisdiction to interfere? But if the apportionment requires an exercise of judgment, perhaps resulting in a “certificate” by the landlord or a third party, s27A will empower a leaseholder to challenge the outcome, requiring the court or tribunal to consider in detail the provisions in the lease and a potentially wide range of circumstances and considerations in reaching a decision.
As the Sheffield case vividly demonstrated, in these cases there is often no single “right” decision on apportionment. There could be a range of reasonable outcomes to choose from, and it may be difficult to identify much in the way of principle in picking between them. Indeed, in the Sheffield case, the Upper Tribunal decided that the best it could do in relation to the whole house bonus was a very rough and ready 50/50 split between the landlord and the leaseholder. This carried echoes of what the Upper Tribunal had previously said in Windermere Marina Village at [45]:
“The apportionment of service charges can be a complex matter in a building with a variety of modes of occupation (business, leisure, residential) or as between different buildings on a large estate. Different contributions may be appropriate to different users and there may be more than one fair or reasonable method which may be adopted.”
It remains to be seen whether this is good news for either leaseholders or landlords. In truth, it seems to introduce yet more uncertainty and scope for dispute.
What the directories say about Christopher Baker:
“One of the best social housing lawyers around.” “Enormous breadth of knowledge in housing, social care and local authority issues.” Chambers and Partners 2017
‘A veteran of complex housing law appeals.’ Legal 500 2017
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