Service charge clauses can often be found in a commercial lease, most commonly, leases on an estate or part of a larger building. Whether you are a landlord or a tenant, it is important to understand your obligations under a service charge clause and its possible implications.
What is a service charge?
Such clauses allow the landlord to recover the costs of running the estate/building from the tenant. (Instead of passing on the burden to manage the estate/building to the tenants or being burdened with the cost itself, the landlord will manage the maintenance and running of the estate/building and collect the expended costs from the tenants, so the landlord is left with a ‘clear’ rent from its tenants without the rent being swallowed up in maintenance costs).
What maintenance/running duties does the landlord need to carry out?
The lease will typically set out what services the landlord must provide (being the services that the tenant must pay towards).
The services will concentrate on maintaining ‘common areas’ that all tenants on the estate/building would share the use of, for example, repairing the main structure of the building (if the property that is let to the tenant is part of a larger building rather than a standalone unit), maintaining any shared roads, paths and car park, landscaping any green areas, employing caretaking/ management/ reception/ security staff. This way, the landlord can ensure that open client facing areas are kept in a good condition.
How much does the tenant pay?
The lease will deal with the tenant’s proportion of the service costs and the obligation to pay that proportion.
In leases, it is normal to see that the tenant is to pay a ‘fair and reasonable proportion’ of the costs of the services provided by the landlord. In calculating that amount, reference is usually made to the area of the tenant’s building so that the service costs can be split fairly between all of the tenants. But, just because the tenant occupies a specified area, does not necessarily mean it should pay towards all services. Some tenants may seek to ‘cherry – pick’ which services they pay and do not pay towards. For example, a tenant occupying a ground floor will not want to pay towards the maintenance of any lifts or escalators giving access to upper floors of the building.
Sometimes, a specific percentage of the costs is quoted in the lease so that the tenant only pays that percentage of the costs incurred by the landlord. If this is the case, obviously, the landlord should ensure all service charge percentages in each of the leases for the lettable units equate to 100%.
Some tenants may also seek to negotiate a cap so that the amount of service charge the tenant is required to pay does not exceed the cap figure.
Administration of the service charge
The service charge clause in the lease will also need to deal with:
- any unoccupied parts of the estate/building (a tenant would not want to be responsible for maintenance of those areas, but the landlord may seek to recover these costs form tenants of occupied areas);
- when the service charge is paid to the landlord in advance on account;
- a statement of account showing all the costs the landlord has spent on the provision of the services;
- how credits or shortfalls are dealt with between the statement of account and the amount the tenant has paid on account in advance.
Negotiation of a service charge
The landlord’s solicitor would normally draft the first version of the lease. To be able to draft the service charge clause in the lease, the landlord’s solicitor would need a detailed understanding of the running of the estate/building so that no stone is left unturned (i.e. every service that the landlord carries out and every charge that the landlord incurs in managing the estate is re-charged to the tenant).
As with all elements in a lease, the service charge clause can be a topic of high discussion between the landlord and tenant. The landlord will want to ensure it can pass the burden of cost to the tenant and have the ability to recover those costs swiftly from the tenant without room for dispute. Whereas, the tenant will want to limit its service charge liability, seek to minimise the amount of service charge it is responsible for, and have the ability to dispute the amount of service charge it is being called to pay. When the lease (in its entirety) is being negotiated, the parties should, at the very least, seek to strike a fair balance to protect its interest and exposure to service costs.
BHW has a commercial property department who regularly deal with the leases of commercial property. If you would like any advice on any of the matters mentioned above, contact Raj Hundal on 0116 402 7249 or Raj.Hundal@bhwsolicitors.com.