Interpreting Service Charge Account, Balance Sheet And Reserve Fund

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    Interpreting Service Charge Account, Balance Sheet And Reserve Fund

    Hello guys, could you help me interpret the attached document? Being a first time buyer, I'm totally clueless as to how to interpret the Service Charge Account, Balance Sheet And Reserve Fund. Does anything stand out to you in particular? The first attachment is for year 2016. The second one is 2017
    Attached Files

    #2
    Given they have a reserve fund, it is to too low. They ought to have been able to cover the roof work with ease, rather than surcharging.

    It suggests they haven't had their eye on the ball on health and safety and are panicking after Grenfell.

    I'm confused about the difference between the cumulative surplus and the reserve fund. The cumulative surplus would normally be called the reserves.

    Otherwise you just need to judge whether the expenditure is consistent with the work needed.

    Comment


      #3
      Each year you will receive accounts in respect of service charges. These must be produced within 6 months of the year end. The year for your building evidently ends 28 February so accounts should be sent by end August.

      The top part of the service charge account shows service charge income i.e. the amount receivable from leaseholders plus demand for service charge (reserve fund: see below) re major works e.g. roof repairs (year ending 2017) and any bank interest received. For year ended 2017 the amount of income was £12,652.

      The middle section shows the expenditure (money spent) for different categories of expenditure. For example £2,121 was spent on general maintenance. The total expenditure for the period (year) was £14,367 taking account of the amount (£1,622) financed from the reserve fund.
      I don’t know the details of your lease but there is a reserve fund. Money is collected from leaseholders as specified in the lease and set aside for major or other items of significant expenditure. This enables the landlord (or managing agent) to cover the cost or most of the cost of major works without sending new demands for monies to leaseholders. It is usually collected as part of annual service charges. Your leases appear to require reserve funds to be collected for specific expenditure. For example, £2,750 was demanded for roof repairs (refer to the income section).

      The bottom part of the service charge account shows the surplus or (deficit) for the period (deficits are shown in brackets). The deficit for the year was (£1,715). To calculate this, deduct total expenditure from total income figure.

      The surplus (sum left over) from the previous year is brought forward i.e. £2,889 leaving a surplus of £1,174 to carry forward to year ending 2018. The lease will determine how surpluses should be treated. The accounts suggest leases allow surpluses to be retained and carried forward. This may not be the case with deficits and you may need to pay a balancing charge when the accounts are produced.

      I don’t have time to explain the balance sheet now but hope the above is of help.

      Comment


        #4
        Thanks for the detailed explanation, vmart and also leaseholder64. It helps greatly.

        Comment


          #5
          That should read: each year you MAY receive accounts. They SHOULD be provided within six months. If you want to be sure of receiving a different format of accounts, within six months, you should formally demand them within five months of the end of accounting year.

          Individual leases may have stricter requirements.

          Comment


            #6
            BALANCE SHEET

            I will provide a quick explanation using the Balance Sheet as at 28 February 2016.

            A balance sheet is literally a snap shot of the business at a given point in time; in this instance 28 February 2016.

            It shows the assets and liabilities of a business from the business’s point of view. To explain: service charge arrears are an asset from the business’s point of view (see assets at the top of the balance sheet) because the money is owed to the business. From the leaseholders’ dimension, service charge arrears are a liability since they owe this money.

            The other assets shown are:
            • Recoverable cost: this might be a court/tribunal fee owed by a leaseholder or leaseholders. There are often notes to the accounts which might provide an explanation. You can always ask the landlord or MA to clarify.
            • Prepaid expenses: this is money paid in advance against service charge expenditure.
            • Funds at managing agents: as it is an asset clearly money the managing agents holds in reserve. You would need to contact them to find out more details.
            Liabilities:
            This shows details of the money the business owes.
            • There are £4,352 of service charges collected from leaseholders not yet spent hence a liability.
            • Creditors: money owed to suppliers. For example, £161 is owed to supplier/s of general maintenance.
            • It also notes accrued charges. I cannot say from the information which categories this applies to. An accrued expense is an expense in the books for the period but not paid for (a bit more complicated than this but explanation will suffice).
            The difference between total assets and total liabilities = NET ASSETS.

            The net assets is represented by the reserve fund + cumulative surplus (see the cumulative surplus c/f figure in the service charge accounts). You will note the total £4,511 marries with the figure above. This is the balancing part of the balance sheet which is just a mathematical equation. If these were accounts for a business this figure would be entitled ‘Net Worth’ of the business as at the date of the balance sheet.

            The figures shown at the bottom show movements in the reserve fund and tell you as at 28/2/16 there was £1,622 in the fund.

            Comment


              #7
              Actually, the service charges in arrears are worrying, as well. They are are a significant part of the annual income. As well as having a rather small reserve fund, this is probably also why they have a surcharge for the roof. That probably represents the common, but questionable, practice of borrowing money from good payers to bail out poor payers.

              The high proportion of arrears suggests that either there is some ongoing grievance, or the managing agent is not effective in chasing debts.

              Comment


                #8
                Thanks guys....a lot of food for thought.

                Attached is the service charge account for 2018 if you're curious.
                Attached Files

                Comment


                  #9
                  They seem to have stopped using a reserve fund, there is nil balance now, I agree with LH64 that it was not being operated properly, the purpose of a reserve is to spread the cost of the works as evenly as possible. So expenditure will fluctuate from year to year when works are carried out.

                  There was an old balance written off, I would certainly want to know more about that, it looks like a leaseholder was given an allowance.

                  I agree that the cost of fire monitoring appears to be high and I would question why it is an annual expense. LH64 may be right, many agents overreacted following Grenfell.

                  The management fee appears to be quite high, it is 24% of the other expenditure. The agent seems to charge additional sums when works are carried out.

                  Surpluses and deficits seem to be carried forward which is unusual, the lease usually provides for them to be charged or credited to leaseholders.

                  The service charge arrears were high in 2015 but they have been collected in 2016. The recoverable cost appears to have been collected in 2016.

                  The prepaid expenses refer to the buildings insurance as explained in the latest accounts. They seem to be paying the premium annually in advance before the start of the service charge year. That is likely to cause cash flow problems, I would suggest that they arrange the insurance so that it is payable later in the year.

                  The service charges received in advance relate to monies received for the following year.

                  The net assets do not mean a great deal, they have reduced because monies were held in 2015 for the exterior decoration and they have been paid in 2016.

                  Comment


                    #10
                    Turns out that I slipped a line when reading the arrears, so you can ignore that comment.

                    Also, I only opened up the 16/17 ones so it looked I misread the risk assessment and testing as indicating that they had just realised they needed a fire risk assessment, but it looks like they have them rather too regularly. The guideline is 5 years, with annual, in house, reviews, unless there is a significant change.

                    I'm going to hazard a guess on fire monitoring that this is a mainly BtL block and they have been told to check housekeeping regularly but don't have residents who can be trusted with the job, so they are are probably getting half an hour of agency staff a week to do this. There doesn't seem to be any regular cleaning, so no cleaner to do this. If you had an RMC and an owner occupier director, I hope they would take on that job. I don't see why a block with a third party manager shouldn't do the same, if there was a reliable owner occupier. (£576 is close to £11 pw.).

                    It looks like the reserve fund isn't really a reserve fund, but rather the result of redecoration not being carried out in the year in which money was collected. That may also explain the arrears in 2015. Some people weren't able to pay their contribution to the redecoration. This may in turn have been the reason the decoration moved into the next year.

                    The OP may want to check the lease to see if it does, in fact, authorise a reserve fund. If it does, the managers really need to be building up that reserve.

                    I'm guessing, from the management fee, that this is a six flat block, so the the 2015 decoration demand was a little over £2,000 per leaseholder, which may well have resulted in several having difficulty paying.

                    It think the insurance prepayment is because there was a single, annual, payment, and the accountant has done a proper accruals calculation, and only charged the proportion of the premium from the start of the cover to the end of the accounting year. The remainder is then shown as though it is money owed by the insurer.

                    Comment


                      #11
                      I agree that you should check whether or not the reserve fund is permitted in the lease. There must be a reason why the agent has stopped using it.
                      vmart is correct that the balance sheet shows balances on one particular day of the year. You should compare balances from one year to another to consider if there is a problem. The service charge arrears in 2015 was a problem but that has been addressed in subsequent years. LH64 could be correct, the service charges for the redecoration may have been demanded close to the end of the year It is very unusual to have no service charge arrears at all and that is a good sign.
                      It is not unusual to see a prepayment for insurance, the theory is that the expense should be allocated to the correct service charge year, what is unusual though is that there is a full 12 months paid in advance as at the end of a service charge year. The problem seems to be that payment of the annual premium is due before the agent has had the opportunity to collect service charges for the year.
                      The lack of monies held by the managing agent appears to be a major concern. There are creditors to be paid and no service charges to be collected, the net balance is insufficient to pay for one month’s service charge expenditure.
                      If it were not for the cumulative surplus, the agent would be unable to pay expenditure at all. The cumulative surplus belongs to the leaseholders but it never seems to be repaid to them (you should check the lease on that point) but at least the amount is relatively small. I would watch the amount to ensure that it does not increase to unreasonable levels.

                      Comment


                        #12
                        Superb insight! Thanks guys.

                        It is a purpose built block of 11 flats, six of which are being rented out so yes, Leaseholder64 is spot on saying the block of flats is mainly a Buy to let block. I believe it has Right To Manage (RTM) as the lessees have their own management company which, from what I gather, it is a Residents' Management Company (RMC). Whomever the director is (haven't met them yet), I don't believe they live in the block of flats.

                        According to the management company, I will have to pay £550 service charge demands in advance every months in March and September so a total of £1100 each year.

                        It does appear that the lease contains a clause where the managers can set up a reserve fund if they see fit (see screenshot)
                        Attached Files

                        Comment


                          #13
                          financial statement
                          Attached Files

                          Comment


                            #14
                            There doesn't seem to be a requirement to produce accounts, although they are best practice and their lack would be a problem when selling.

                            It looks to me that you have a tripartite lease, with a leaseholder owned management company. That gives you less rights that right to manage. Right to manager gives you significant control over consents (the freeholder has to actively refuse) and gives you a right to see real time detailed accounting information. The reference to covenants with the Manager, suggest this is not a share of the freehold case.

                            Whilst these are the ways public policy is trying to go, please note the current thread on removing an RTM. This shows the big problem, especially with blocks that have gone BtL, although finding younger owner occupiers prepared to donate time can also be difficult.

                            The solicitor should have asked for AGM minutes. Modern companies don't have to have AGMs, but the lack of any general meeting held annually would be a bad sign. Check to see if a significant proportion of the leaseholders actually attend.

                            Also check that the company has at least two directors. If the managing agent is a director, that is a caution sign. If the managing agent is the only director, or the articles require directors to be leaseholders or residents, and the managing agent is a director, treat that as a red flag. A managing agent as company secretary should also be treated a caution, as they have been known to interfere with leaseholder right to control the appointment of directors.

                            Comment


                              #15
                              Originally posted by leaseholder64 View Post
                              There doesn't seem to be a requirement to produce accounts, although they are best practice and their lack would be a problem when selling.

                              It looks to me that you have a tripartite lease, with a leaseholder owned management company. That gives you less rights that right to manage. Right to manager gives you significant control over consents (the freeholder has to actively refuse) and gives you a right to see real time detailed accounting information. The reference to covenants with the Manager, suggest this is not a share of the freehold case.

                              Whilst these are the ways public policy is trying to go, please note the current thread on removing an RTM. This shows the big problem, especially with blocks that have gone BtL, although finding younger owner occupiers prepared to donate time can also be difficult.

                              The solicitor should have asked for AGM minutes. Modern companies don't have to have AGMs, but the lack of any general meeting held annually would be a bad sign. Check to see if a significant proportion of the leaseholders actually attend.

                              Also check that the company has at least two directors. If the managing agent is a director, that is a caution sign. If the managing agent is the only director, or the articles require directors to be leaseholders or residents, and the managing agent is a director, treat that as a red flag. A managing agent as company secretary should also be treated a caution, as they have been known to interfere with leaseholder right to control the appointment of directors.
                              Thanks Leaseholder64. I will check with the solicitor

                              Comment

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