Why we need to prepare service charge accounts

Estate and buildings will often comprise multiple units, individually owned or occupied, receiving common services that need to be settled between the occupiers. Such costs commonly include utilities, cleaning, repairs and insurance for the common areas. In this circumstance, a formal set of accounts, scheduling the costs incurred and share to each occupier is needed.

Depending on whether the property is commercial, residential or mixed use, there are certain reporting requirements that apply.

Commercial property service charge accounts

There should be a lease that sets out the terms of sharing costs, and how those costs should be reported to lessees. In contrast to Residential property, commercial service charge accounting is not covered by any statutory guidance.

The Royal Institution of Chartered Surveyors (RICS) sets out for its members guidance relating to the management, administration and accounting for commercial real estate with its professional statements, such as Service Charges in Commercial Property.

Within this guidance it is suggested best practice that service charge accounts are issued to occupiers within 4 months of the reporting date.

Residential property service charge accounts

The reporting of residential service charges is governed by legislation, namely the Landlord and Tenant Act 1985 (LTA1985) and Commonhold and Leasehold Reform Act 2002 (CLRA2002). Most commonly, such accounting is required where you have a leasehold block of flats. The preparation of periodic service charge accounts requires careful consideration, particularly as the requirements of some leases are unclear and is often not understood that service charge funds are commonly held under trust as a requirement of the LTA1985.

Importantly, there are strict criteria regarding the time periods that costs incurred can be recovered from occupiers, which if not met can mean further costs to owners. In practice, such accounts and the demands based thereon, are to be issued to tenants with 6 months of the reporting year end.

The Institute of Chartered Accountants in England and Wales (ICAEW), in collaboration with the Association of Chartered Certified Accountants (ACCA), the Institute of Chartered Accountants of Scotland (ICAS), the Association of Residential Managing Agents (ARMA) and the RICS issued ‘Tech 03/11 Residential Service Charge Accounts’ as guidance for the preparation of these accounts.

Residential Landlord company statutory accounts

In addition to preparing the service charge accounts, the lease will name the landlord which is often a limited company. Depending on the way the company has been set up, it may or may not have a legal interest in the property itself.

The limited company can be set up to hold either the freehold interest or to manage the property or both and it is important to understand the interaction with the property and the leases to ensure that the tax position is correctly identified and dealt with.

Often the company has been set up in the form of a Right to Manage (RTM) company, as introduced by the CLRA 2002, which means that the (long) leaseholders of the building have taken over the rights to manage the building for themselves.

From an accounting perspective, the limited company will need to prepare accounts and submit them to Companies House each year. These are commonly non-trading accounts, because funds collected and used to settle the costs incurred are held in trust for the leaseholders. Such trust monies do not belong to the company and under current best practice should not be recorded as an asset (and corresponding liability) in the company accounts.

If the company owns the freehold interest in the property then it may receive ground rents or other forms of taxable income (for example, lease extension income), plus there will be related costs. A net surplus after all costs will often result in a corporation tax liability.

Mixed-use service charges

There are cases where one building has both commercial and residential service charges. Commonly this is seen where you have a parade of shops with residential apartments above. Dealing with these can be more challenging but using our expertise we can advise on how these can be dealt with.

If you would like to know more about this subject, please view our specialist service charge webpage to see the services we provide here