Hawk Investments Properties Limited v Diana and Christopher Eames & Ors

To pay to the Landlord from time to time in manner hereafter provided the proportion properly attributable to the Demised Unit (meaning thereby that proportion which the rateable value of the Demised Unit bears to the aggregate Rateable Value of the Demised Unit and the other Lettable Units in the Centre) of the total outgoings and expenditure (the aggregate amount of which … is … referred to as “the Service Cost”) incurred …. by the Landlord in … providing the services amenities and facilities specified in the Third Schedule … the amount of the Service Cost and the proportion thereof aforesaid to be determined and notified in writing in manner hereinafter provided by the Landlord’s Surveyor PROVIDED NEVERTHELESS :- … (Footnote: ¹)

That if the system or method of rating buildings and premises in operation at the commencement of the term hereby granted shall hereafter be changed or abrogated so as to render the apportionment of and contribution to the Service Cost according to rateable value inoperable or manifestly inequitable then such apportionment and the proportion of the Service Cost to be attributed to and paid in respect of the Demised Unit shall be calculated by some other just and equitable method to be conclusively determined by the Landlord’s Surveyor”

“(1)   An application may be made to [the FTT] for a determination whether a service charge is payable and, if it is, as to— …

(c)  the amount which is payable,

…

(3)   An application may also be made to [ [the FTT] for a determination whether, if costs were incurred for services, repairs, maintenance, improvements, insurance or management of any specified description, a service charge would be payable for the costs and, if it would, as to—…

(c)  the amount which would be payable,

…

(6)  An agreement by the tenant of a dwelling (other than a post-dispute arbitration agreement) is void in so far as it purports to provide for a determination—

(a)  in a particular manner, or

(b)  on particular evidence,

 of any question which may be the subject of an application under subsection (1) or (3).”

“An agreement by the tenant of a dwelling (other than a post-dispute arbitration agreement) is void in so far as it purports to provide for a determination—

(a)  in a particular manner, or

(b)  on particular evidence,

 of any question which may be the subject of an application under subsection (1) or (3).”

“… clearly decided that where the relevant lease conferred upon the landlord (or some person other than the FtT) a contractual right to determine a discretionary question about service charges, that determination was by section 27A(6) rendered irrelevant to the determination of the same question by the FtT, which was not limited to a review of its contractual or statutory legitimacy.”

So under the law as it stood when the FTT made its decision, the words at the end of paragraph 1(b) of Schedule 4, quoted above at paragraph 6, had to be read as follows:

The FTT set out that paragraph from the lease with that deletion, and said at its paragraph 16:

The practical effect of that was that in a situation where the method of apportionment prescribed by the lease had become inoperable or manifestly inequitable, only the FTT could decide upon a new just and equitable method, and that either party to any of the leases could apply to it to do so at any point.

That was how the law stood when the FTT made its decision in this case.

In Aviva v Williams the Supreme Court decided that the Court of Appeal was wrong in Sheffield v Oliver and that a new approach was to be adopted.

The leases in issue in Aviva v Williams provided that each tenant was to pay a certain percentage of the landlord’s costs “or such part as the Landlord may otherwise reasonably determine”. Lord Briggs (with whom Lord Reed, Kitchin, Sales and Richards agreed) considered the FTT’s jurisdiction under section 27A which enables the FTT to determine whether a service charge is payable. He said that the FTT “would decide by reference to common law principles of contractual liability, subject to the detailed scheme for statutory control laid down in the immediately preceding provisions of the 1985 Act.”

Lord Briggs went on to say that section 27A(6) is an anti-avoidance provision. It renders void a provision in a lease for the determination in a particular way of any question which may be the subject of an application under subsection (1) or (3).” (emphasis added). Under those two subsections, the FTT has jurisdiction to decide whether service charges are payable under the lease, and whether there is any statutory restriction upon their amount. The section does not confer a jurisdiction to scrutinise the landlord’s management decisions.

He went on:

Lord Briggs went on to explain that section 27A(6) can then be seen in its context as an anti-avoidance provision, designed to ensure that the jurisdiction of the FTT to determine whether a service charge was payable could not be ousted by terms imposed by a landlord, for example by stating that his own decision was to be final.

Yet, said Lord Bridge, the Court of Appeal’s interpretation of section 27A(6) in Sheffield v Oliver was that the provision that enabled the landlord to exercise its discretion was void. The decision could only be taken by the FTT. Lord Bridge reasoned that if that is the effect of section 27A(6) upon an express discretion, it must have the same effect upon implied terms that give business efficacy to a lease by providing that the landlord can decide when to repair the roof, which contractors to employ, and so on. They are all void, with catastrophic consequences:

By contrast, said Lord Briggs, if section 27A(6) is read so as simply to preserve the FTT’s jurisdiction under section 27A to decide whether a service charge is payable under the terms of the lease, and reasonable where the statute so requires (as in the case of costs incurred where service charges are demanded to cover them), then all is well:

I pause to observe that if the decision of the Court of Appeal in Sheffield v Oliver did have the effect of taking away from landlords all their decision-making powers in the management of leasehold premises, no-one noticed and the FTT has not been overwhelmed. Be that as it may, it is now perfectly clear that where a lease gives a landlord a discretion to make a decision, section 27A(6) does not take it away. What is taken away is any provision that the landlord’s decision is final. Continuing from Aviva v Williams:

Accordingly the only part of the contractual provision in a case such as the present that has to be ignored is the provision that the determination of the Landlord’s surveyor is to be conclusive. Turning back to paragraph 22 above, only the word “conclusively” has to be deleted or ignored and the FTT gets to review the “contractual and statutory legitimacy” (Aviva v Williams paragraph 32) of charges demanded on the basis of the new apportionment. In fact only contractual legitimacy is in issue, because there is no statutory restriction on the landlord’s power to make that apportionment (there being no provision in the 1985 Act that apportionments have to be fair, or reasonable, or anything else).

It is clear therefore that the apportionment by the Landlord’s surveyor is not rendered void. Instead what the FTT has to do is to determine whether it is contractually legitimate or whether instead, the new apportionment (and demands based on it) breaches the terms of the lease. Thus far I think the analysis is fairly straightforward and, I believe, common ground between Mr Loveday and Mr Grundy KC.

The issue in this appeal: the arguments

Mr Loveday and Mr Grundy KC disagree about the type of review to be carried out by the FTT.

In his skeleton argument Mr Loveday said:

That reflects the provision in the leases in Aviva v Williams, where each tenant’s share was “x % or such part as the landlord may otherwise reasonably determine”. I do not think Mr Grundy KC would quarrel with Mr Loveday thus far. But next Mr Loveday says:

To explain this disagreement we have to look at rationality. Lord Briggs alluded at his paragraphs 15 and 16 to Braganza v BP Shipping Limited [2015] UKSC 17, where the Supreme Court explained that where a contract confers a discretion upon one party, the courts have implied a term about how that discretion is to be exercised:

That implied term is that the discretion must be exercised rationally:

The Supreme Court in Braganza grappled with some deep questions as to the relationship between a rationality test and the standard to be applied in judicial review, which need not detain us here save to say that it is difficult to draw a bright line between the two and clear that they are closely related if not identical. The point relevant to the present appeal is that where a discretion is unqualified – where there are no contractual requirements about reasonableness, fairness etc – then there remains an implied contractual term that the discretion must be exercised rationally.

In London Borough of Hounslow v Waaler [2017] EWCA Civ 45 the Court of Appeal explored the difference between a review of the rationality of a decision and a review of its reasonableness in the context of section 19 of the Landlord and Tenant Act 1985 which provides that costs can be taken into account in determining the amount of a service charge only insofar as they are reasonably incurred. Absent that provision, the Court of Appeal explained, the FTT can only review the rationality of a landlord’s decision to incur a cost because rationality is all that is needed for contractual validity; what the statutory provision adds to the FTT’s jurisdiction is the ability to go further and assess the reasonableness of the decision. As to what the difference is, Lewison LJ at paragraph 22 quoted Lord Sumption in Hayes v Willoughby [2013] UKSC 17 at 14:

Rationality is therefore focused on process, while reasonableness is a higher standard focused on the outcome of that process. Mr Loveday summarised a rationality review as being an assessment of whether the landlord had acted capriciously, and argued that only the lower standard of rationality can be applied by the FTT in determining the contractual validity of a new apportionment made by the landlord in a case such as the present.

Mr Grundy KC disagreed. In a lease such as in Aviva v Williams the FTT must look at whether the landlord did in fact act reasonably; in the present case the FTT is to review the landlord’s surveyor’s proposal and determine whether it is just and equitable. That does not mean that the FTT makes its own decision, or can impose the solution that it prefers. It is to review the decision taken by or for the landlord and determine whether what was done meets the requirements of the contract, so that in the present case the FTT is to decide whether the new apportionment is “just and equitable”.

The Supreme Court in Aviva v Williams gave no explicit guidance about this issue. When it came to the decision that had to be taken, Lord Briggs said:

There is no mention here of rationality. Mr Loveday argued that that was what was meant by the word “reasonably” and “reasonable” in that paragraph. And it is true that there are older cases where “reasonable” is used as a synonym for “rational”, although I am not aware that that has happened in decisions since Braganza. Mr Loveday argued that the respondents’ construction takes us back to the ills identified by Lord Briggs in his paragraphs 19 to 26, where he explains why a landlord’s discretionary decisions should not be transferred to the FTT.

The Tribunal’s decision about the standard of review now to be applied by the FTT to a decision to change the apportionment of service charges

What is not in dispute is that the FTT has to assess whether service charges based on the new apportionment would be payable, and in making that decision it is assessing whether the apportionment has been carried out in accordance with the lease. In other words it is deciding whether the apportionment complies with the requirements of the lease.

Essentially the dispute is about what the lease requires.

To take a step back, imagine a lease where the apportionment of service charges was left to the landlord without qualification: “The lessee shall pay by way of service charge such proportion of the landlord’s expenditure as the landlord shall determine.” I think it could not be doubted that the effect of the decision in Aviva v Williams would be that the FTT would review the landlord’s apportionment on the basis of rationality only. Neither the lease nor the statute requires the apportionment to have been reasonable, fair, or anything else.

What is the effect of a qualification such as the one in Aviva (“such part as the Landlord may otherwise reasonably determine”) or the one in the leases in Heritage Close (“some other just and equitable method to be … determined by the Landlord’s Surveyor”)?

On Mr Loveday’s interpretation of Aviva v Williams the additional words “acting reasonably” and “just and equitable” have no effect. What the lease requires is that the landlord shall make a decision, and so long as he does so rationally the FTT cannot change the decision.

It is very difficult to see that that can be right. It is particularly difficult to see that if the Landlord were to impose an apportionment method devised by its surveyor that was not “just and equitable” it would not be in breach of contract, since the lease specifically requires that the method be just and equitable.

I find that the respondents’ interpretation of the standard of review to be carried out by the FTT is correct, for three reasons.

First, as just stated, to restrict the FTT to a rationality review would render redundant the additional words that the parties to the lease agreed to include. They wanted a new apportionment to be just and equitable. The parties to the lease in Aviva v Williams agreed that the landlord would act reasonably in making the apportionment. The parties to the lease in Windermere Marina Village Limited v Wild [2014] UKUT 163 (LC) specified that the tenant was to pay “a fair proportion”, as did the parties to the lease in issue in Sheffield City Council v Oliver [2017] EWCA Civ 25. It is difficult to see how the landlord would not be in breach of contract if his new apportionment, in the present case, was not just and equitable; and for the landlord to be able to make a conclusive decision that his new scheme was just and equitable is to nullify the anti-avoidance provision of section 17A(6).

Second, that approach is consistent with what the Supreme Court did in Aviva. That is the inevitable conclusion on reading paragraph 33 of the Supreme Court’s decision (set out at paragraph 45 above) – unless one is to re-write it and read “rational” for “reasonable”. It is vanishingly unlikely that that is what the Supreme Court intended. It is worth noting that Lord Briggs mentioned Braganza and a rationality review only twice, in paragraphs 15 and 16 where he was considering the background law rather than the facts of the case before the court. If he had meant to say that in reviewing this kind of decision the FTT is restricted to a rationality review regardless of the wording of the lease he would have said so and he would have explained why.

Third, this construction does not have the ill-effects identified by Lord Briggs in his paragraphs 19 to 26. The position for which the respondents argue is not that the landlord should have no power to make a new apportionment and that the FTT is to take on that task on the application of anyone at any time. Rather, the landlord has a discretion conferred by the contract to decide on a new apportionment, but the FTT in reviewing the decision is to assess whether it is just and equitable. There is no removal of the landlord’s decision-making power and no possibility of the FTT being overwhelmed by applications or of the landlord’s normal management powers being stymied.

To conclude: in assessing the contractual legitimacy of service charges based on the new apportionment that the appellant proposes, the FTT is required to assess whether the method determined by the landlord’s surveyor was “just and equitable” as required by the lease.

Did the FTT make the decision that it was supposed to make as the law now stands?

We now turn to what the FTT did.

It will be recalled that the FTT first decided that the condition precedent to any change in the apportionment had not been met. So the appellant’s application fell at the first fence. However, the FTT went on to say that in case it was wrong about that it would decide whether Mr Forrester’s method of apportionment was just and equitable, and it decided that it was not.

In the circumstances that was a surprising approach. The law as it then stood made the FTT the sole decision-maker about a new apportionment method and so it would appear that the FTT should have made its own decision rather than reviewing the surveyor’s decision.

However, as it turns out, the FTT did do what the Supreme Court has now said it must: it reviewed the landlord’s new apportionment (rather than making its own decision).

So the approach was correct; the FTT reviewed the landlord’s proposed new apportionment and decided whether it met the contractual requirement that it be just and equitable. It decided it was not, and the appellant appeals that decision.

The appeal from the decision that the new apportionment was not just and equitable

The new apportionment scheme that the appellant seeks to introduce shares the cost of services in proportion to floor area. It was devised for the appellant by Mr Peter Forrester FRICS, who made an expert witness report and a supplemental report for the FTT and gave evidence at the hearing. No expert evidence was adduced by the respondents.

Mr Forrester’s original report explained the new apportionment method by floor area in just six paragraphs. He referred to the RICS Professional Statement about service charges in commercial property, and to the RICS Code of Practice for residential charges, and said that apportionment based on floor area is the most common and generally considered the simplest method of apportionment for service charges. He explained that he had not been given access to the respondents’ properties and so had taken the floor areas from plans and marketing particulars. He attributed a notional 2% of the floor area to the car park. He concluded that the residential properties together should pay 37.68% of the total service charge.

As the FTT pointed out in its decision, Mr Forrester did not refer to the RICS guidance note on managing mixed-use developments, which states at paragraph 4.7 “There can be a difference between benefit and use … A discounted charge may be appropriate in some circumstances, with the costs being weighted towards each occupancy and use type”. Mr Forrester gave no consideration to whether there should be any weighting of the residential or commercial service charges in light of their different nature and of the possibility that they made use of the landlord’s services in different ways and to different extents.

Mr Forrester in his supplemental report adjusted his figures, after he had had the opportunity to take some more accurate measurements and had amended his assessment of the area of the car park to 1.58% of the whole. He calculated that the residential leaseholders together should pay 34.71% of the service charge.

The respondents’ unhappiness with the proposed scheme is readily understandable. Whereas under the current apportionment, based on historic rateable values (see paragraph 8) the residential properties together pay 9.74% of the total service charge, while the commercial lessees pay 90.26%, under the new scheme the residential properties together would pay about 34% of the whole. The FTT at its paragraph 54(ii) said that the service charges for Unit 1, for example, would go from £3,376.80 (I think that must be the figure for 2021/22) to about £12,488.79. That is undoubtedly a shocking increase.

Mr Forrester’s evidence was that had domestic rates not been abolished, the residential leaseholders’ proportion of the whole would have gone up because of the rate at which market values of residential properties have risen compared to those of commercial properties. He estimated that had domestic rating continued in force the residential leaseholders would by now by paying about 34% of the service charge for the whole development – an estimate that the FTT (at its paragraph 45) thought was “probably too high”, but not by much. In effect the appellant says that the residential tenants have been paying far too little for many years, hence the big increase now.

The FTT acknowledged Mr Forrester’s expertise and noted the absence of expert evidence from the respondents to challenge his opinion. But it said that “two sets of problems” led it to conclude that the new scheme was not just and equitable.

One set related to what the FTT called “historical matters and conduct”. It pointed out the scale of the increase: for about 45 years the residential leaseholders had been paying about 10% of the whole, and the new scheme would cause approximately a fourfold increase in the overall residential share with alarming consequences for individual households. The method devised after the abolition of domestic rates had been applied for more than 30 years. For the last 20 years there had been “substantial adverse changes” for the residential leaseholders; the commercial premises had been extended, so that the residential leaseholders had lost their ground floor access and an internal staircase. The commercial units now included licensed premises which stayed open longer and were noisier than retail shops. There was no evidence that the current service charge arrangements were deterring commercial tenants, there being only one vacant commercial unit.

The second set of problems the FTT said related to the appellant’s “failure to take a more nuanced and co-operative approach, making reasonable allowance for the background and the nature of this mixed-use development”. It refused to accept that a more balanced consideration of the extent to which residential and commercial tenants used or benefited from various services was “not worth it” as had been suggested. It suggested that a more balanced assessment should have taken into account key features of the development, such as the extent to which the commercial units might make more use of the site manager, of the car-park and of the basement area. The FTT expressed dissatisfaction with some of the measurement information with which it had been provided. Finally it commented that the service charges for 2022/23 were going to be much higher than usual because of major works, and said “a method which suddenly moves to a much higher service charge proportion just when these larger major works are planned does not, together with the other factors mentioned, appear just or equitable.”

The appellant says that the FTT fell into serious error. Whether the new apportionment was a “just and equitable” scheme was to be assessed objectively, and not on the basis of the history of dealings between the parties. The apportionment method should be neutral and was not supposed to provide compensation for perceived losses in the past, nor to punish the landlord or the commercial tenants. As to the need for a “more balanced approach”, there was no evidence that the commercial tenants made more use of the car park, of the site manager or of the storage area. Mr Forrester’s method followed professional guidance, it is in common use, it closely replicated what the residential tenants would now be paying if domestic rating had continued and reflected changes in the relative rental values of residential and commercial premises since 1990. It could adapt to future changes in area. The timing of the change in apportionment cannot possibly go to whether the new method is just and equitable; if the apportionment is fair then it is fair for the lessees to pay that proportion of the cost of the major works. Finally, if subjective factors were relevant, the FTT’s analysis ignored the fact that the residential tenants had had a substantial windfall for many years.

Furthermore, the lease did not provide for the apportionment of service charges to be “weighted” to reflect the different nature of residential and commercial leases, and weighting would be contrary to the terms of the lease.

Mr Grundy KC for the respondents argues that the factors taken into account by the FTT were all relevant, including historic matters and the fact that the residents were going to suffer a huge increase in costs if the new apportionment came into effect.

In considering these arguments and assessing whether the FTT fell into error in deciding that the new scheme was not a just and equitable apportionment I bear closely in mind that it was not open to the FTT to impose its own conception of what would be the fairest method. Nor did it do so. I also bear in mind that the FTT had conducted a site visit and so was keenly aware of the nature and layout of the property and of the relationship between the residential and commercial parts of the building.

In one respect I agree with the appellant. It was not appropriate to assess the new apportionment in light of historic events such as the extension of the commercial units. There was no evidence that the appellant was in breach of covenant to the residential lessees or had derogated from its grant to them in allowing various alterations to and amalgamations of the commercial units and I regard those past events as an irrelevant consideration.

Leaving those historical matters aside, the major factors that swayed the FTT were, in very broad summary: first, the huge increase in charges that the residential leaseholders would face; second, the lack of weighting in the scheme for different uses; and third the timing of the increase.

I do not regard any of these considerations as irrelevant and together they amply justify the FTT’s decision even when the irrelevant matter referred to above is disregarded.

The most important one is the failure of the new apportionment method to take into account different levels of use and benefit as between the residential and commercial properties. This would not be contrary to the lease. It would be different from the method prescribed in the lease, but there is no stipulation that any new method could not take different use and benefit into account. The point the FTT was making was that a simple floor area apportionment, which might well be appropriate for a purely residential or purely commercial property, was not obviously fair without there being some consideration as to whether the use made of services or the benefit obtained from them was actually proportionate to floor area. In a mixed-use development it might well not be. The FTT did not make any findings of fact that the commercial tenants made more use of the site manager, for instance, or of the parking; it merely made the point (having seen the premises and having an understanding of the range of commercial premises) that they might well do so and that that no consideration had been given to the possibility.

The other two main factors (the huge increase and the timing of the increase) are linked and relate to the effect of the apportionment upon the leaseholders, which cannot be irrelevant to the equity of an apportionment scheme. Leaseholders will have bought, or retained, their properties with a particular level of service charges in mind and will have managed their domestic budgets accordingly. I agree with the appellant that a change in the apportionment method is appropriate, but a change that means it is Christmas for the commercial tenants and serious hardship for the residential tenants all in one fell swoop is not equitable.

The new scheme must of course be “just and equitable” between both parties to the lease, to the appellant as well as to the leaseholder. There is no evidence that the new method would bring any particular benefit to the appellant. To that extent it is relevant that there is no evidence that any of the commercial tenants is having trouble with the current arrangements and so no evidence of rental voids as a result.

Accordingly I find that the FTT did not fall into error. It did take into account some irrelevant historical matters, but leaving those matters aside it gave ample reason for its decision that the new method proposed by the appellant was not “just and equitable” as the lease requires.

Conclusion

In conclusion the appeal fails. Although I have set aside the decision of the FTT that the condition precedent to a new apportionment had not taken place, and have found that a new apportionment could now be introduced, I have upheld the FTT’s alternative finding that the appellant’s proposed new apportionment was not “just and equitable” and that therefore service charges demanded on the basis of that apportionment will not be payable.

The FTT made an order under section 20C that the landlord’s costs of the proceedings were not to be charged to the lessees as a service or administration charge. The appellant appeals that decision in the event that the substantive appeal is successful. In light of the outcome of the appeal I take the view that that appeal also fails.