Assessing Service Charge: What is ‘fair’ and ‘conclusive’?
Thursday 8th September 2022
In lease negotiations, agreeing on service charge provisions can be time-consuming. Landlords want to recover all costs incurred in providing services for the common areas; tenants expect only to pay a ‘fair’ proportion.
There have been two important recent cases on what is considered to be ‘fair’ and whether the amount determined by the landlord is ‘conclusive’.
Case One: Criterion Buildings Ltd v McKinsey & Company Inc. (United Kingdom) and another  EWHC 216 (Ch)
Criterion claimed an unpaid service charge of over £2.2 million. McKinsey disputed the proportion of charges allocated to them. The charge covered various buildings, including the Criterion Theatre. McKinsey claimed the apportionment between the tenants unfairly favoured the Criterion Theatre at their expense.
So what is ‘fair’ when assessing the service charge proportions attributed between multiple tenants?
Could the court interfere with the service charge proportions determined by Criterion?
What did the lease say?
The lease said McKinsey must pay a ‘due proportion’ of the service charge, defined as being ‘a fair proportion to be determined from time to time by the Landlord or the Landlord’s surveyor’.
What was the decision?
The court found in favour of Criterion, making the following points:
- As it has knowledge of the building, a landlord can subjectively decide how a charge is divided between tenants, provided the decision is rational;
- The court’s role was simply to see that the terms of the lease had been observed. It was not the court’s role to determine the service charge proportions payable by tenants;
- Where the service charge is split between several tenants, it makes no financial difference to the landlord how it is divided and therefore the landlord can be trusted as ‘it has no axe to grind’;
- The evidential burden was on a tenant when challenging the landlord’s rationality in determining the service charge and to establish a case if they disputed the reasonableness of the sums claimed.
Case Two: Sara & Hossein Asset Holdings Ltd v Blacks Outdoor Retail Ltd  EWCA Civ 1521
Sara & Hossein claimed for unpaid service charge. Blacks challenged the sums charged for a number of reasons.
The lease said Blacks must pay a fair and reasonable proportion of the total costs of the services and expenses. At the end of each service charge year, Sara & Hossein must provide a certificate of the service charge actually due from Blacks which ‘in the absence of manifest or mathematical error or fraud such certificate shall be conclusive’. There was an expert determination clause in the lease if there was a dispute as to the proportion of the overall costs for the building payable by the tenant, but there was no equivalent provision if there was a dispute about the landlord’s total costs.
The High Court decided that Sara & Hossein’s certificate was conclusive as to the costs incurred in providing the services, but not as to whether it was entitled to charge for such services in the first place (otherwise, a landlord would, in effect, be a judge in its own case). The case went to the Court of Appeal.
Did the High Court correctly interpret the service charge provision?
What was the decision?
The Court of Appeal found that the High Court’s interpretation was incorrect and noted the following:
- The specific wording of service charge provisions in the lease is the starting point. Those words should be interpreted by their natural meaning. The courts will not interfere with a contract merely because it puts one party at a disadvantage;
- The use of the word ‘conclusive’ in the lease meant this applied to the total costs incurred by the landlord and the identification of services and expenses falling within the service charge;
- Any other interpretation would require either express words to that effect in the lease or a necessary implication. There were no such express words in the lease and no grounds for such a necessary implication;
- The court’s role is to establish what the parties have agreed to, not what the court thinks they should have agreed to. It is the responsibility of a tenant to carefully consider the terms of the lease.
What are the practical points to consider from these cases?
- They or their managing agents must properly record their rationale in determining the charge for any building or estate. This will help to deal with any future challenges by tenants.
- They should consider whether or not the service charge statement is deemed to be conclusive in the lease and if the tenant has the ability to challenge this. The Sara & Hossein case emphasised the importance of having clear wording in the lease.
- Before taking a lease, a tenant must understand how the service charge is calculated and whether the landlord’s determination is ‘conclusive’. Is there scope to challenge the proportion and/or amount of service charge charged?
- The Sara & Hossein decision is worrying for tenants. Usually, landlords include wording in a lease stating that the service charge statement is conclusive. A tenant may still be able to challenge if there is mathematical error or fraud if the lease mentions this, but otherwise wouldn’t be able to challenge with the landlord’s statement.
- Tenants should ask for a service charge cap to give certainty and also for the exclusion of items the tenant doesn’t expect to pay for.
If you have any questions regarding this or any other commercial property query, please contact a member of our team.