Reserve & Sinking funds 

Many managing agents repeatedly fall into the trap of failing to collect sufficient sums of money in reserve funds because of lessee’s resistance to contribute to the long term finances of the development, often because such funds are generally not recoverable when an apartment is sold.

Reserve or ‘sinking’ funds are created under the terms of a lease over time to build up a sum of money that can be used to pay for or contribute to large items of future expenditure. The concept is to split the cost over a period of time to avoid large one off charges and so, ensure that all occupiers, past and present contribute towards the works according to their period of ownership.

However, contributions must meet the tests of reasonableness and payability applicable to any service charge item (L & T Act S.19 & 27a as amended by 2002 Act). Contributions should be justified by reference to a block specific plan relating to its particular condition: works required, anticipated cost and timing as recommended by RICS Code. Assuming the lease does not make any other provision the preferred calculation method is to take the expected cost of the works, including fees and VAT, and divide it by the number of years expected to pass before the work is incurred.

Reserve funds are required by law to be held on trust (S42 L & T Act 1987) and must be invested in accordance with the Trustee Act 2000. If the fund is invested prudently, the interest earned will go some way to meeting the costs.

Often the lease will specify what the funds can be spent on and if so the agent can only collect and spend the fund on those prescribed items. Should the lease not permit for the collection of reserve funds, the lessees will have to be persuaded to fund any works due in the service charge year within which they fall. Though difficult, by having a plan in place for a number of years in advance, it will allow advance warning of works providing the lessee with the opportunity to budget for additional costs.

Alternatively a voluntary fund can be considered although be cautious as they have no legal standing under the lease or in legal rights as stated in RICS Code (10.11). Conversely, if the lease states that a fund “shall” or “will” be set up or refers to the service charge estimate being able to include “future” as well as current works, there is an obligation to do so.

Reserve funds can have benefits for the landlord and lessees as well as assisting the agent in progressing major works. Where the lease allows a fund to be set up do not exclude it but be realistic in the level of contribution. Alternatively, where the lease does not allow for the collection of reserves, consider obtaining the lessees agreement to vary the leases.

Helen Christie comes from a legal and property management background, currently Associate Director at Harrods Estates.