What happens to service charge recovery when you’ve acquired the right to manage but the developer or landlord has retained ownership of one or more flats?

This is not an uncommon scenario for Right to Manage companies and is something that can have a substantial impact on a block’s cash flow, as highlighted in the recent case of Gibbs v Clevedon Court.

Carmela Inguanta, head of litigation and property management specialist at Brady Solicitors explains.

By way of reminder, right to manage (RTM) is a group right for qualifying leaseholders of flats to manage the development in which they live. Once the RTM has been acquired, the management functions transfer from the freeholder to the RTM company, which can then either manage the block or appoint a managing agent.

A key function of the RTM company is to collect the service charge monies in accordance with the lease.  But what happens if one of these flats is not held under a long lease, for example where it has been retained by the developer or freeholder? Are they liable to pay a service charge for their flat?

This was the scenario in the Gibbs v Clevedon Court case.

The Gibbs had purchased the freehold of Clevedon Court in 2006 and extended it, creating seven extra flats. They sold three of these and assigned long leases.

The right to manage was then acquired in 2010 and the new RTM company swung into action with a programme of repairs and maintenance. The RTM company chose the cheaper of the two contractors. The Gibbs disputed part payment towards the works, citing the quality of the work.

Putting the quality of the work aside, what is the Gibbs’ liability for service charges, given that they are not party to a lease?

With no residential lease to refer to, the answer lies in Section 103(2) of CLRA 2002 – the Right to Manage Act. This comes into play when the landlord has retained a flat within their freehold – as with the Gibbs – and so the flat is not subject to a lease held by a qualifying tenant, making it an ‘excluded unit’.

Section 103(2) goes onto say that:

‘where the premises contain only one excluded unit, the person who is the appropriate person in relation to the excluded unit must pay to the RTM company the difference between (a) the relevant costs, and; (b) the aggregate amount payable in respect of the relevant costs under leases of flats contained in the premises which are held by qualifying tenants’.

Section 103(5) confirms that where an RTM company is present, and a flat is not subject to any lease, this ‘appropriate person’ is the freeholder.

In this case therefore, the Gibbs were liable for payment towards their flat, being the excluded unit.

The effect of Section 103(2) meant that Mr and Mrs Gibbs were liable for the shortfall between the total amount payable by the qualifying leaseholders and the actual amount spent on the maintenance of the block.

Where an RTM is granted quickly after a block is finished with perhaps unsold units or the freeholder has chosen to retain apartments then this case can help clarify service charge liability.

RTM companies do not have the right of forfeiture and are often created in an attempt to address poor maintenance and get major maintenance projects back under control. The RTM company may also be tied to repair covenants that will require service charge contributions.

The approach to “excluded units” outlined in the Gibbs case can add clarity to the RTM company and freeholder relationship once the right to manage has been acquired – and ensure the RTM company  has the funds to carry out maintenance and function effectively.

A final thought…

A further point to note is that there are seemingly no requirements about how the sum is demanded from the freeholder, nor what information the RTM company is obliged to provide in relation to the service charges they are demanding. It is somewhat ironic that in such cases the freeholder does not have the same protection as a leaseholder would have. In practice we suspect the RTM company would treat the freeholder like any other leaseholder and send the same documentation as it would the other leaseholders.

For proactive, expert advice on right to manage or service charge recovery, contact the property management specialists at Brady Solicitors.