By Nicholas Kissen, Senior Legal Advisor
On 10 June 2015 the Supreme Court handed down its judgment in the case of Arnold v Britton and others
The purpose of this article is to explain the facts and issues behind this decision and why it is important for all those dealing with the interpretation of service charge clauses in residential leases.
What was the Supreme Court asked to decide?
Whose interpretation of service charge contribution provisions in a number of leases was correct?
The properties in question are holiday chalets situated in a caravan park on the Gower Peninsular in South Wales.
The park contains 91 chalets let on leases with very similar terms.
Each lease is for a term of 99 years from 25 December 1974.
The lease terms
There are obligations by the landlord to provide services to the park including maintaining roads, paths, fences, a recreation ground and drains, mowing lawns and removing refuse.
Clause 3(2) is an obligation to pay a yearly service charge at an initial amount of £90 increasing at a compound rate.
A typical such clause reads:
“To pay to the Lessor without any deduction … 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 … for the first three years of the term hereby granted increasing thereafter by Ten Pounds per Hundred for every subsequent three year period or part thereof.”
The first 70 chalets to be let provide for 10% compound rate increases every three years whilst the last 21 chalets on leases granted between 1978 and 1991 provide for such a compound rate increase to take place every year.
Four of the 70 leases were subsequently changed by formal deeds of variation to provide that the increases were yearly instead of every three years. These deeds were executed between October 1998 and August 2002.
The owners of the 25 chalets with increases every year are the appellants in the Supreme Court. The Respondent is the landlord.
What was the issue between the parties?
Basically, whether the figure of £90 as inflated is to be regarded as a fixed amount, or as an upper limit.
The landlord argued that the service charge provisions required the leaseholders to pay a fixed amount of £90 in the first year, with compounded increases of 10% afterwards.
The leaseholders maintained that the charge was not a fixed one but instead a variable service charge within the meaning of section 18 of the Landlord and Tenant Act 1985, with the amount varying in accordance with the landlord’s costs incurred each year but subject to a cap or upper limit of £90 in the first year, uplifted by 10% in later years.
The 1985 Act provides for the regulation of service charges.
The leaseholders pointed out that the landlord’s interpretation would result in the annual service charge for 2012 being £3,060 increasing to over £1 million by the last year of the 99-year term..
What had the courts decided?
The county court came down in favour of the leaseholders and this decision was overturned by the High Court whose judgment was upheld by the Court of Appeal. The leaseholders appealed to the Supreme Court.
What did the Supreme Court decide?
By a majority of 4 to 1 the Supreme Court dismissed the appeal and favoured the landlord.
What was the Supreme Court’s approach to interpretation?
Giving the lead judgment Lord Neuberger emphasised the following:
- When interpreting a commercial contract, by reference to the parties’ intentions as a reasonable person with the background knowledge available to the parties would have understood them to be, the court would focus on the meaning of the relevant words in their documentary, factual and commercial context, but disregarding subjective evidence of any party’s intentions.
- When interpreting provisions in a contract relying on commercial common sense and surrounding circumstances should not be used to undervalue the importance of the language of the clause being interpreted
- The less clear the wording, and the worse the drafting, the more ready the court might be to depart from its natural meaning but this does not allow the court to embark on an exercise of searching for drafting infelicities in order to facilitate such a departure.
- The mere fact that a commercial arrangement, if interpreted according to its natural language, had turned out badly for one of the parties was not a reason for departing from the natural language.
- A court should be slow to reject the natural meaning of a provision as correct simply because it appears to be a very imprudent term for one of the parties to have agreed.
How did the Supreme Court apply this to Clause 3(2)?
The court concluded that the natural and ordinary meaning of Clause 3(2) was clear.
The first half stipulated that the leaseholder was to pay a yearly charge to reimburse the landlord for the costs of providing the services he is obliged to provide, and the second half identified how the service charge was to be calculated.
The reasonable reader of the clause would see the first half as describing the purpose of Clause 3(2) namely to provide for a yearly service charge, and the second half as a quantification of that service charge.
Notwithstanding the unattractive consequences of the annual sum of £90 being increased yearly by 10% on a compound basis, it was not a convincing argument for departing from the natural language in each of the 25 relevant leases and involved inserting words that were not there.
Therefore, service charges are not subject to any special rule of interpretation.