Leasehold service charges: What are they, why are they paid and what if a leaseholder falls into arrears?
When a lease of a residential property (usually a flat) is granted, the leaseholder secures an interest in that particular property for a certain period of time; usually 99 or 125 years. The leaseholder does not have any interest in the freehold title to the building, the land it stands on or any external or common areas such as stairs, gardens or communal car parks. The ownership of the overall building remains with the freeholder (otherwise known as the landlord). The landlord retains ultimate control of the building, so the leases purchased by leaseholders oblige the landlord (or a management company) to ensure the maintenance, repair and upkeep of the building.
Leases usually oblige the leaseholders to cover the cost of these works with each leaseholder paying a contribution as determined by the lease.
Service charges are payable due to expenses incurred, or to be incurred, by the landlord or management company. Demanding service charges is not a profit-making exercise. The timely collection of unpaid service charges is vital to ensure that service charge funds do not face cash flow problems which will inevitably impact the work that can feasibly be carried out to repair and maintain the building.
It is vital that any failure to pay service charges is addressed promptly to avoid cash flow issues as well as more general legal issues such as limitation.
A failure to pay service charges will be a breach of the lease on the part of the leaseholder and most leases enable the landlord (and sometimes the management company) to exercise a “right of re-entry” in this scenario. Essentially, this right of re-entry allows the landlord to bring the lease to a premature end and repossess the property via forfeiture proceedings.
It is important to note that forfeiture proceedings can only be taken if the lease in question contains an express right of re-entry; there is no implied right of re-entry.
Forfeiture proceedings should be preceded by the securing of a judgment declaring the service charges as payable (this is pursuant to Section 81 of the Housing Act 1996) and the service of a section 146 notice outlining the leaseholder’s breach and requesting that payment be made.
If the lease is forfeited, then it comes to an end and the leaseholder is ordered to move out of the property. Forfeiture itself will not recover the service charge debt owing by the exiting leaseholder. It will however bring the issue of non-payment to an end and enable the landlord to grant a new lease of the property for a premium. The service charge debt (and the costs associated with the forfeiture action) can then be paid from the premium received and the landlord will receive the remaining funds as profit.
Forfeiture can be avoided by payment in full, either from the leaseholder or, if the property is mortgaged, the mortgage provider. Payment in full will include the costs associated with the debt recovery and forfeiture action if the lease contains an indemnity costs clause and can be made either immediately after service of a section 146 notice or before a final forfeiture hearing.
The leaseholder has an interest in avoiding forfeiture to keep hold of their lease (and potentially their home) and the mortgage provider has an interest in avoiding forfeiture to retain their security.
Mortgage companies often step in and pay after the service of a section 146 notice, thereafter, adding the sum paid on to the leaseholder’s mortgage balance. Forfeiture is unlikely if a mortgage company has a charge registered against the property.
If a right of re-entry isn’t available, then other recovery methods as follows are available after successfully securing a money judgment:
Charging order, perhaps followed by an order for sale (it should be noted however, that simply securing the debt will not result in immediate payment and relief for strained service charge funds)
Third party debt orders
Attachment of earnings orders
Bankruptcy or winding up proceedings
High Court Enforcement Officers
Service charges are an integral part of leasehold property ownership and have a huge impact on the smooth running of leasehold estates. Non-payment of service charges can cause serious cash flow issues meaning that timely recovery of these debts is imperative.
Forfeiture action commencing with the service of a section 146 notice is an effective method of recovering the charges, particularly when a mortgage company has an interest in the leasehold property.
If there is no express right of forfeiture in the lease, then the usual debt recovery methods can be utilised.
Contact Jessica to discuss this further.
