The Supreme Court has considered whether a service charge clause in leases of holiday chalets should be interpreted as obliging the tenants to pay a fixed sum with a fixed annual increase, writes Peter Reekie.

The outcome of our case this month, Arnold v Britton [2015] UKSC 36, has sparked widespread interest beyond the legal press: the BBC has reported on it with the headline ‘Oxwich Bay chalet tenants lose £1m charges case’.

Put simply, a development of 91 holiday chalets near Swansea were let to tenants over a number of years on long leases for a term starting in 1974. Proceedings were brought in relation to 25 of these leases, in which the service charge provisions essentially required payment of £90 per year, increasing by 10% per annum for the duration of the term. As a result, by the end of the 99-year term the charge for some tenants could be as much as £1,025,000 pa. This was for what were described as ‘modest holiday chalets’, which were used for about six months a year. (The remainder of the chalet leases have similar clauses, which provide for an increase of 10% for every three years of the term.) There were a number of small variations of the clause, but the main version is set out below:

‘To pay to the Lessor without any deductions in addition to the said rent as a proportionate part of the expenses and outgoings incurred by the Lessor in the repair maintenance renewal and renewal of the facilities of the Estate and the provision of services hereinafter set out the yearly sum of Ninety Pounds and Value Added tax (if any) for the first Year of the term hereby granted increasing thereafter by Ten Pounds per hundred for every subsequent year or part thereof.’

The tenants argued that the wording of this clause should be construed as effectively providing for a variable service charge subject to a maximum cap of £90 (and rising). This meant that the words ‘up to’ should be read into the clause before the words ‘the yearly sum of Ninety Pounds’.

The High Court found for the landlord on construction of the clause. It also held that the clause did not provide for the payment of a variable service charge within the Landlord and Tenant Act 1985, section 18, and therefore was not susceptible to statutory control by virtue of the act. The tenants appealed, and the case eventually came before the Supreme Court.

The Supreme Court dismissed the appeal (Lord Carnwath dissenting). Lord Neuberger gave the main judgment. The tenants’ main argument was based on the fact that the parties could not have intended such an absurdly high service charge. However, the court held that the effect of the clause was clear as a matter of language. In relation to the principles of interpretation, the ‘commercial common sense’ principle ‘should not be invoked to undervalue the importance of the language of the provision’. ‘Commercial common sense’ requires consideration of what reasonable people would have intended in the position of the parties at the date the contract was made.

Lord Neuberger pointed out that in the 1970s and for much of the 1980s, annual inflation had been running at well over 10%, and indeed over 15%, for much of this time. Therefore, it was not inconceivable, albeit ‘imprudent’, that the present clause would have been entered into. The purpose of a fixed-sum service charge was readily explicable in view of the statutory controls on variable ones. Further, the court ruled that there is no special rule of interpretation that applies to service charge clauses requiring them to be construed ‘restrictively’.

Nonetheless, the BBC report does say that the landlord, Ms Arnold is ‘prepared to consider some sort of re-negotiation, having regard to the calculation of the service charges in the long-term’.