Whose money is the service charge and reserve fund, and where must it be kept?
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It isn’t the company’s own money. Whoever the service charges are paid to must hold them, and any investments and interest from them, on trust: first to pay the costs the charges were collected for, and then for the leaseholders in proportion to what they pay. The trust money must be held in a designated account at a bank or similar institution, and leaseholders can ask to inspect the paperwork showing that it is.
The trust
Section 42 of the Landlord and Tenant Act 1987 applies where the tenants of two or more dwellings may be required by their leases to contribute to the same costs through service charges (or a single tenant to costs nobody else shares). The “payee” is the landlord or other person the charges are paid to, which can be a residents’ management company or an RTM company. It must hold the sums paid, any investments representing them, and any income from them “either as a single fund or, if he thinks fit, in two or more separate funds”.
The funds are held on trust, first “to defray costs incurred in connection with the matters for which the relevant service charges were payable”, and subject to that, for the leaseholders at the time, in shares proportionate to their service charge liabilities (section 42(3) and (4)). The reserve or sinking fund is part of this, as long as it’s collected through the service charge.
When someone sells or the lease ends
- A leaseholder whose lease ends has no claim to the fund. Their share stays in it for the building (section 42(6)).
- When the last contributing lease ends, the fund is dissolved. If the payee is the landlord it keeps what’s left, and otherwise the payee transfers it to the landlord (section 42(7)).
- An express term in a lease about distributing these amounts overrides subsections (4), (6) and (7) (section 42(8)). Check your own leases.
The designated account
Section 42A requires the payee to hold the trust money “in a designated account at a relevant financial institution”. An account is designated if the institution has been told in writing that the trust funds are held there, only service charge trust money is kept in it (the exact wording of this condition in the revised text of the section shows two versions, so check the current wording for whether one account can hold several trust funds), and it’s the kind of account the regulations specify. We haven’t read those regulations or the list of exempt circumstances, so don’t treat this answer as a full description of which accounts qualify.
- Any contributing leaseholder can serve written notice asking for reasonable facilities to inspect (free of charge) the documents showing the money is held in the designated account, and to take copies. The payee must comply within 21 days, and can make a reasonable charge for the copying (section 42A(3), (6) to (8)).
- A leaseholder who has reasonable grounds for believing the payee isn’t complying may withhold their service charge, and the lease’s late-payment provisions then don’t apply for that period (section 42A(9)).
Practically: keep the service charge and reserve money in its own account, in the company’s name, apart from the company’s own money, and make sure the bank has been told in writing what it holds.
This is general information, not legal advice.
How Tiny Freeholder helps
Tiny Freeholder keeps the service charge account and the reserve separate from the company’s own money in its records, and treats interest on them as trust income. It doesn’t open the bank account or send the bank the written notice for you, and it doesn’t check that your account meets the designated-account rules.