A consideration of Section 20B issues and limitations on recovering legal costs

In No. 1 West India Quay (Residential) Ltd v East Tower Apartments Ltd (2021) EWCA Civ 1119, the Court of Appeal was asked to consider an appeal from the Upper Tribunal concerning two very relevant issues for the social housing sector, namely the limitations imposed by Section 20B(1) Landlord and Tenant Act 1985 (LTA 1985) on landlords seeking to recover costs through the service charge mechanics and what legal costs are recoverable by landlords when litigating with tenants.

The appellant landlord, West India Quay, owned the head leasehold interest of the residential parts of a 33-storey mixed-use building in Canary Wharf, London. A large number of residential flats were let to the respondent, East Tower Apartments, under the terms of a 999-year lease. The respondent had subsequently sub-let some of the residential units.

This litigation is part of a long-standing series of disputes between the parties concerning the provision of utilities and the metering of consumption of gas, electricity and water at the building. This particular dispute concerned the payment of “standing charges” incurred between 2008 and 2012 that were included in utility bills which were sent to the individual tenants by the appellant’s managing agent. The basis of the standing charges was not explained to the tenants but it was intended to cover the costs incurred by a third party who would gather utility usage data which was then used to calculate what each of the residents should be charged for their utilities.

The lease permitted the landlord to recover a ground rent and:

• service charges
• Apartment Energy Charges (AEC); and
• on demand any other sums due under to the landlord under the terms of the lease.

The lease defined the AEC by reference to the cost of the relevant proportion of electricity and gas attributable to providing hot water and chilled water to the air conditioning systems, the usage to be evidenced by meters. Therefore, at a previous hearing, the First Tier Tribunal determined that the ‘standing charges’ could only be recovered as part of the annual service charge as it did not relate to the costs incurred in providing utilities.

Section 20B(1) LTA 1985 provides for a time limit on recovering costs through service charge demands, meaning that any costs incurred by the landlord more than 18 months before a demand for payment of service charges is issued are not recoverable.

Section 20B(2) provides that, if a landlord serves a written notice on a tenant within 18 months of incurring costs, informing that the costs had been incurred and a subsequent service charge demand would follow, then the costs are recoverable.

In this case, the respondent argued that, as the standing charges were not demanded in accordance with the lease provisions, if the landlord now wanted to remedy this and issue a fresh demand in accordance with the lease billing mechanics (such as including the standing charges within the annual service charge), it would not be payable as the costs were incurred more than 18 months before they were demanded.

The appellant sought to argue that, if the Section 20B(1) point applied to the standing charges, by the time the landlord became aware that its previous approach was not compliant with the lease, more than 18 months would have elapsed from costs being incurred, making them unrecoverable and there being no point in re-demanding them as service charges.

The Court of Appeal rejected the appellant’s argument and agreed with the Upper Tribunal’s decision, upholding that a demand for the purposes of Section 20B LTA 1985 must be a contractually valid demand which is served in accordance with the service charge provisions of the relevant lease. The statutory provision lays down a “bright line” which was designed by Parliament to provide certainty for tenants in what is going to be included in their annual service charges. The exception in Section 20B(2) does nothing to diminish that bright line and in any event, in this case, the appellant had not used it.

Regarding the second issue to be decided by the Court of Appeal, the appellant sought to rely upon a cost recovery provision in the lease, which is present in most long leases, allowing the landlord to recover costs incurred “under or in contemplation of any proceedings under Section 146 and 147 [of the] Law of Property Act 1925 … in the preparation or service of any notice thereunder and arising out of any default on the part of the Lessee”. 

The Upper Tribunal held that, for costs to be recoverable under the lease, these costs must satisfy two conditions:

1. Incurred in contemplation of proceedings under Section 146 LPA 1925; and
2. Arise out of some default by the tenant.

As a finding of fact, it found that the appellant did not ever evidence an intention to forfeit or to take proceedings for forfeiture, which it was held to be an essential pre-requisite for relying on the cost recovery covenant. Furthermore, the proceedings could not be viewed as being “as a result of any default by the tenant” as it was in fact the respondent who started the proceedings in order to clarify the confusion and uncertainty surrounding the payment of utility charges; by and large, the courts found in their favour at previous instances and, lastly, there was no indication that they refused to pay what it properly owed, once that amount had been finally quantified.  

In addition, costs could not be demanded as admin charges as Section 81 Housing Act 1996 meant that a landlord could not exercise forfeiture for failure to pay a service or administration charge until 14 days after a final determination by (or on appeal from) the appropriate tribunal that the amount of the service or administration charge is payable by the tenant.

The appellant argued that this was not relevant, that a Section 146 notice could not be served unless there was a tribunal finding on payability of charges and that this in itself was sufficient to bring the legal costs under the meaning of the covenant, as arguably supported by the decision in Freeholders of 69 Marina. Not surprisingly, the Court of Appeal rejected this argument and distinguished the facts in Freeholders of 69 Marina from this case, not least because the landlord commenced proceedings in the County Court and the judge concluded that the tenants were liable for costs under the relevant clause regardless of whether a Section 146 notice was served or not.  

Commentary

Landlords should be mindful of what the lease says and interpret it restrictively as the courts are less likely to give a wider meaning if a dispute arise. The Court of Appeal’s decision highlights the importance of getting it right the first time – landlords should carefully read the lease provisions and ensure that costs recharged to their tenants fall within what the lease allows to be service charged. In addition, if landlords face any delays in issuing demands, a best practice approach would be to serve a Section 20B(2) written notice as soon as practicable but in any event within 18 months of incurring costs to ensure that recovering sums due from the tenant is possible.

When it comes to relying upon a cost recovery covenant in a similar wording to the one in this case, it is clear that the courts will consider the landlord’s state of mind at the time when the costs were incurred, so as to determine whether proceedings and/or serving notice under Section 146 LPA 1925 were in fact being considered, as well as whether there had been a default from the tenant. This is all very much fact-sensitive, so landlords should ensure that, from the outset of taking legal action, the end result is carefully signposted to the tenant – if the lease provides recovery of legal costs incurred in contemplation of proceedings / serving notice under  Section 146 LPA 1925, then this should be clearly communicated to the tenant from the beginning and explained what steps are taken to reach this.

For more information on what to consider when recovering legal costs in social housing matters, please contact Clive Adams or another member of the Social Housing Team.