Hidden costs in commercial leases: How to handle service charges

Hidden costs in commercial leases: How to handle service charges

Rebecca Evans, Commercial Property

When negotiating a commercial lease, rent often takes centre stage but unexpected or excessive service charge costs can become one of the most substantial and avoidable expenses incurred by a new tenant.

Understanding service charges

A service charge is a fee levied by the landlord or their managing agent to cover the costs associated with the maintenance and management of any common areas or parts of the property retained by the landlord. These costs may include, but are not limited to:

• Repairs and maintenance
• Cleaning
• Decoration
• Compliance with legislative requirements

The service charge may also cover the cost of employing third parties to carry out these services, as well as any associated professional fees incurred in preparing service charge accounts.

Onerous costs to watch out for

Tenants should be particularly cautious of being charged for expenses that should reasonably be borne by the landlord. Examples of such costs include:

• Enforcement of covenants between the landlord and other tenants (e.g., a neighbouring tenant’s obligation to pay rent)
• Costs related to letting vacant units
• Rent review expenses

These are typically considered to be part of the landlord’s responsibilities as property owner and should not be passed on to tenants through the service charge.

Tenants should also ensure that they are not liable for service charges attributable to vacant units within the property. The financial burden of maintaining unoccupied premises should fall on the landlord, not on the remaining tenants.

This list is not exhaustive, and tenants are strongly advised to engage a solicitor to review the lease and identify any potentially onerous service charge provisions.

How service charges are calculated

Landlords generally provide tenants with an estimated service charge at the beginning of each accounting year. This estimate reflects the anticipated costs of operating and maintaining the property’s common areas.

At the end of the accounting period, the landlord should issue a statement detailing the actual expenditure incurred. If there is a shortfall between the estimated and actual costs, the tenant will typically be required to pay the balance within 28 days. Conversely, any surplus should be credited against the following years’ service charge.

Challenging service charges and resolving disputes

Tenants should have the right to:

• Review the annual service charge statement
• Inspect all supporting documentation and accounts
• Raise queries and request clarification on any charges

Furthermore, the service charge statement should be certified by an independent accountant to ensure accuracy and transparency.

In the event of a dispute, the lease should provide for referral to an independent expert for resolution. Tenants should be particularly cautious of lease terms stating that the landlord’s service charge statement is “conclusive.” Such provisions can prevent any challenge to the charges imposed, potentially allowing the landlord to increase the service charge without accountability.

It is advisable to negotiate the inclusion of a dispute resolution mechanism in the lease to protect against unchecked increases in service charges throughout the lease term.

Next steps

Understanding the scope and implications of service charges is essential when entering into a commercial lease. Tenants should approach these provisions with care and seek professional advice to avoid unexpected liabilities. A seemingly minor oversight in this area can lead to substantial financial consequences over the duration of the lease.

Our Commercial Property Team can review your lease and help you negotiate fair service charge terms, get in touchwith Rebecca Evans to find out more.