Do the math: service charge interpretation
Author: Jessica Ready
Applies to: England and Wales
The Supreme Court has ruled in favour of contractual certainty in a long-standing service charge dispute, notwithstanding the disastrous effect this would have for tenants.
The outcome of the case, Arnold v Britton and others, means that a number of tenants are saddled with a fixed service charge increase each year. By 2072 each tenant will be paying a service charge of £500,000 per annum.
Oxwich Leisure Park comprises 91 chalets, each let for a period of 99 years from 25 December 1974.The leases are on broadly the same terms except for the frequency of review of the service charge review. Some of the leases provide for annual review and others provide for review every three years.
The tenants subject to an annual review appealed against a Court of Appeal decision that they were required to pay an initial service charge of £90 per annum, increasing by a compound rate of 10% each year. The lease provision in contention read as follows:
'To pay... a proportionate part of the expenses and outgoings incurred by the Lessor in the repair maintenance renewal and the provision of services hereinafter set out the yearly sum of Ninety Pounds and value added tax (if any) for the first year of the term hereby granted increasing thereafter by Ten Pounds per Hundred for every subsequent year or part thereof.'
In dismissing the tenant's appeal the Supreme Court acknowledged that its interpretation of this wording had an 'alarming consequence' for the tenants but that this did not justify departing from the natural meaning of the clause.
The parties' choice of a fixed sum with fixed annual increases was easily explained as they had assumed that the cost of providing the services would increase and wanted to prevent future disputes about the level of those costs. Also inflation during the 1970s and much of the 1980s had been higher than 10% per annum and so this lease obligation could be seen as a gamble for both landlord and tenant. The express terms of the lease were clear.
The court said that when interpreting a contract:
- 'commercial common sense' and the surrounding circumstances should not be used to undervalue the importance of the language used.
- 'commercial common sense' cannot be invoked retrospectively to facts arising after the date of the contract. It is only relevant to ascertaining how matters would or could have been perceived at the date of the contract. The court will not step in to save a party from a bad bargain.
- it is not the court's function to relieve a party from the consequences of imprudence or poor advice.
- there is no special principle of interpretation that service charge clauses are to be construed restrictively. The usual principles of interpretation apply, i.e. 'what a reasonable person having all the background knowledge which would have been available to the parties would have understood them to be using the language in the contract to mean'.
Negotiate with caution
Where the natural meaning of a clause is clear then the principle of 'commercial common sense' will not be applied, no matter how detrimental those consequences may be for a party.
Regardless of having legal advice parties should always read any contract carefully to ensure that they have a full understanding of the meaning and impact of all clauses.
In particular, in terms of service charge or other financial obligation, when a deal has been struck tenants should work through any formula carefully to check that it will not result in a disproportionate or unforeseen liability in the future.
Landlords will welcome this decision as an indication that usual principles of interpretation will apply to service charge clauses and they will not be construed restrictively.