Highly Charged

1 March 2012

(with congratulations to Paul Watling and team)

The London Assembly published its report into Service Charges calling it "Highly Charged".  The findings and recommendations are relevant to all property managers and leaseholders.  The key messages are:

- managers should be required to be fully transparent on all contract costs and bill payments, enforced by new standards from ARMA and RICS

- mediation should be introduced by LEASE and the LVT as a compulsory step before Tribunal (although we think the Tribunal pre-hearing process already provides this function)

- LVTs should provide more balance to leaseholders representing themselves against large companies and lawyers

- when purchasing a leasehold property the conveyancing solicitor should be obliged to explain all the issues in the lease

The report stops short of pointing out to Grant Shapps what everyone else in the country already knows, that regulation must be updated and enforced against rip-off managers. The 80-page report can be downloaded from here:

http://www.london.gov.uk/publication/service-charges-london

Executive summary

Service charges in London – more than half a billion pounds

This report considers one particular aspect of English property law, the freeholder- leaseholder relationship, and the way that service charges on residential leasehold property are determined and charged by landlords, and paid for by more than 500,000 London leaseholders.  Most of these leaseholders are in the private sector, but there are significant numbers with social landlords, many as a result of the right to buy.  We estimate that Londoners pay more than half a billion pounds annually in service charges.

Is the system working?

It is ten years since the last major piece of leasehold legislation came onto the statute book. In that time concerns over how service charges are levied and their scale have grown. The Minister for Housing is aware of the concerns raised by leaseholders: “service charges top the list of leasehold complaints… and it is accepted that there is some poor practice.”

 
Our review has identified a number of aspects of the system that London leaseholders find particularly problematic and our report sets out a number of pragmatic steps that should be taken to help rebalance the relationship between landlord and leaseholder to deliver a fair and transparent way for service charges to be levied.  

The consultation process

The law requires that leaseholders paying variable service charges must be consulted before a landlord carries out works above a certain value.  Landlords must describe the work or services proposed and obtain at least two estimates.  Leaseholders must be able to comment on both the works and estimates and even nominate alternative contractors.  However, landlords are not obliged to enter into the lowest price estimate nor use a contractor nominated by the leaseholder.

The law is complex and prescribes the minimum consultation needed.  In the private sector there is a code of practice that recommends landlords consult over and above the legal requirement.  In the public sector however we have seen practice that goes further still.  Overall it appears public landlords in London have developed a depth and breadth to their consultation on service charges that is far less evident in the private sector. 

It is almost always beneficial to landlords to secure the buy-in of those who have to pay service charges.  In future, landlords and those with other responsibilities may need to rethink past practice and improve their consultation with leaseholders from a very early stage.  We recommend that the private sector management associations should review how their advice on service charge consultation is being implemented and, if improvements are found to be warranted, it should work with the best performing London social landlords to raise the standard of consultation.

How transparent are the charges?

Perhaps the most controversial aspect of service charges across all sectors is the transparency of charges.  Perceptions exist among some leaseholders that charges are unnecessarily high and are inflated through a variety of mechanisms, meaning the landlord or managing agent benefits at the expense of leaseholders.  Some Leasehold Valuation Tribunal (LVT) decisions confirm that this type of malpractice does occasionally happen: some landlords take substantial commissions for providing services from third parties; others have been found to award contracts to subsidiaries of their own company at inflated prices.

Despite a broad consensus that regulations to ensure greater transparency need tightening, we welcome voluntary moves from the private sector to improve this aspect of the system.  There are lessons to be learned from moves toward greater clarity in the management of leasehold properties.  An increasing number of managing agents are promoting their services as “highly transparent and open to leaseholder scrutiny”.   Such companies seem to be boosting confidence in the way leaseholders can access and understand all the information they need about how their services are procured and charged for.  They are throwing out a challenge to the property management industry in general.  These best practice principles should be adopted across the sector.

Adjudication and dispute resolution

The Leasehold Valuation Tribunal gives the opportunity for leaseholders to gain redress if they feel their service charges are not justified.  Service charge related cases in London increased more than 54 per cent between 2005 and 2010.  It is not just leaseholders using the system however – half the cases involve landlords trying to recover costs they have incurred from leaseholders.  The LVT acknowledges that cases will increase in the future. 

But leaseholders cite the increasing complexity of the tribunal process, landlord intransigence in providing information, costs involved to assemble cases and the fact that landlords increasingly employ Counsel that disadvantages individuals who do not have access to legal advice.

To continue to provide a fair and balanced adjudication service, the LVT might develop in a number of ways in order to meet the challenge.  It should review whether leaseholders are disadvantaged from either applying to tribunal, or in conducting their own cases, and it should set out plans for providing mediation or pre-application advice as a cost effective method of improving the dispute resolution process.  Government needs to review whether it is possible to make making mediation a compulsory first step of settling disputes.

Leaseholders’ right to manage

Legislation gives a right for leaseholders to force the transfer of the landlord’s management functions to a company set up by them – a right to manage company.  In London there are barriers to achieving the right to manage.  This may explain the relatively low proportion of leaseholders that have taken up the option to date.  Obstacles include the large numbers of absentee flat owners that make achieving the 50 per cent of residents needed to secure the right problematic.  The high proportion of mixed use developments means the residential element is often below the 75 per cent level needed for right to manage. 

Government should review whether barriers to achieving the right to manage in London means that the existing legislation is less effective here than elsewhere in England.

Do leaseholders have all the information they require?

The law is complex but nothing is more complex than the leases themselves.  It appears from our review that buyers rarely consider the obligations to pay service charges when purchasing their property.  Leaseholders need access to better information if problems are to be minimised.  Some public landlords have established the practice of giving prospective leaseholders a range of advice and information on their rights and obligations - including service charges.  All those involved in conveyancing leasehold property should supply much more information to prospective leaseholders including: estimated service charges for the next five years; planned major works and details of the previous three years’ service charges - as a minimum.

The way forward

The Government is confident that the current legislative framework can deliver the balance required to make the leasehold service charge system work.  However, a significant number of London leaseholders feel that further reform may become necessary.  Our report makes a number of pragmatic proposals for improving the way service charges are levied and calls for review in a number of key areas.