It is not uncommon for a lease to contain provisions in respect to the collecting of a reserve or sinking fund. The terms reserve and sinking fund are often used interchangeably, but they don’t actually mean the same thing. Brady Solicitors’ Head of Litigation Liz Rowen considers the common key questions from Managing Agents.
What is a reserve fund?
A reserve fund is collected over a relatively short period, typically one or two accounting periods to budget for unexpected expenditure on the regular expenditure items within a lease, such as gardening or general maintenance. The purpose of the reserve fund is to provide a contingency for such unexpected expenditure and to avoid having to seek a balancing charge from the leaseholders.
What is a sinking fund?
The purpose of a sinking fund is to build up a ‘pot’ over a period of time to offset against major works expenditure. The intention of such a fund is to ensure that sufficient funds are already available should a major works project be required or, if the sinking fund does not cover the full amount required, it will have the effect of reducing the financial burden on the leaseholders who would not have to cover the full amount of the project costs.
Are reserve and sinking funds regarded as service charges?
The short answer is yes, and because of this they’re still subject to statutory protections. It is essential that the monies are held in a trust (S.42 Landlord and Tenant Act 1987) and that they’re held in separate accounts to the other service charges collected for a development.
Can a leaseholder challenge the sums demanded to a reserve or sinking fund?
Again, the short answer is yes. As previously stated, they’re classed as a service charge demand and therefore are subject to reasonableness, which means that they can be challenged by leaseholders in the First-Tier Tribunal (FTT).
It should also be noted that the FTT has the jurisdiction to determine the payability of a service charge. Therefore, if there is no provision in the lease for payment towards a reserve or sinking fund, then the leaseholder can also challenge the inclusion of such a charge on the basis that the lease does not allow for it. Due to this it’s crucial that when budgeting for a reserve or sinking fund, firstly the lease enables you to do so and secondly that the amount charged is well thought out and therefore reasonable.
Upon sale of a property, can a leaseholder request their contribution towards the reserve or sinking fund to be returned to them?
If it is mandatory, that method must be used but, as we outline above, you can also use an alternative method at the same time that may bring the document being served to the other party’s attention more quickly, as long as you can prove that you have also used the required method of service.
If it is not mandatory, you can use whatever method you choose – all you need to be able to do is to prove service is required.
More often than not the answer here will be no, any contribution can not be repaid, unless the lease states that repayment of any contributions should be made upon the sale of the property.
Where a lease does allow for a sinking or reserve fund, it is good practice to build them up and important to avoid the temptation to use them to contribute towards any potential overspends elsewhere, as ultimately it will deplete the relevant funds for when they’re needed to contribute towards works, which is their actual purpose.