Following the 2017 Grenfell tragedy, there has been a significant rise in the cost of buildings insurance to leaseholders in multi-occupancy properties. One contributing factor is commissions – the proportion of premiums paid to brokers and third parties.
A recent report by the Financial Conduct Authority (“FCA”) revealed that broker remuneration increased by almost 40% in the last 3 years, with over £80 million of commissions shared with others, often the freeholder or managing agents.
The FCA observed that managing agents are typically remunerated via a service charge whilst freeholders have limited input in procuring insurance so that it is unclear why either should receive additional payment via broker commissions, adding that, “While in some cases customers may be aware of the amount of commission being paid, there is no general level of transparency or standard reporting regarding levels of commission.”
Reforms on the horizon?
The report makes several proposals for the government to address such issues, for example:
- imposing a legal requirement on freeholders/managing agents to provide policy information to leaseholders;
- exploring ways to make leaseholders party to insurance contracts and affording them a simple route to challenge insurance costs passed on by freeholders.
In response, the government is promising “to ban property managing agents, landlords and freeholders from taking commissions on buildings insurance and replace with transparent fees” and has requested a further FCA report by October 2023 to update on any changes in commissions and buildings insurance pricing.
At the same time, leaseholders are increasingly turning to the courts to force property investors, managing agents and brokers/insurers to alter their practices. In one recent case, the First Tier Tribunal ordered a broker to disclose sums paid to the landlord and determined that commissions totalling £1.5 million between 2010–2019 were not reasonably incurred and should not have been charged to leaseholders.
Yet that decision only came after a hard-fought battle over two years and did not require the landlord to compensate leaseholders for commissions already paid. Thus, for now at least, the secrecy around commission payments – and resulting inability to challenge their fairness – persists.
Lease Insurance Provisions
In the meantime, well-advised leaseholders will want to ensure their leases contain suitable provisions requiring full disclosure of insurance fees and/or that the insurance rent expressly excludes (unfair) commissions.
For their part, freeholders of residential blocks and mixed-use buildings ought to stay abreast of the evolving insurance landscape and review existing commission arrangements to determine if the insurance costs they are passing on to leaseholders offer fair value and comply with the terms of their leases. Going forward, they should seek legal advice to make certain that the insurance provisions in any new leases conform with the prevailing rules and, where these permit, reserve the landlord’s right to keep commissions received.
Whilst the current focus of the government and FCA is primarily on multi-occupancy residential buildings, such considerations are likely to spread across to the commercial property sector as well. Indeed, to a certain extent, these are already enshrined in the Code for Leasing Business Premises England and Wales (also known as the Lease Code) which, whilst non-mandatory, recommends that landlords pass on to tenants the benefit of discounted premiums and disclose whether they benefit from insurance commissions. Landlords, particularly with larger portfolios, will want to retain the benefit of commissions (and discounts) received, arguing that these result from their ability to negotiate insurance on a larger scale than a tenant could. Tenants may counter that the insurance/service charge are not intended to profit landlords, who should only recover actual costs incurred.
Key points
Landlords and tenants should:
- watch out for any legislative/regulatory changes affecting the treatment of buildings insurance fees and commissions;
- seek legal advice when entering new leases to ensure these reflect their best interests and comply with current rules and potential future changes.