Why can’t tenancy deposits be for more than two months rent?
Syndicated from The Landlord Law Blog » FLW Article
Can tenancy deposits be more than two months rent?
This is a question I was asked recently, and I am finding it harder than I thought originally, to answer it. The answer I have come up with is that you can, in that it is not illegal, but it may not be a very good idea.
As most of you know, a tenancy or damage deposit is a sum of money paid by a tenant to the landlord which is held during the tenancy, to be a fund the landlord can use to pay for any necessary repairs or replacement when the tenant leaves.
When first asked (in a comment here) about the need to keep deposits at or below two months rent, my response was that deposits of over two months rent will be deemed to be a premium, and premiums are bad news and best avoided. When my questioner inevitably then asked “why?”, and I started looking more at the detail, things became less clear.
‘Key money’ and premiums in the past
A premium is a sum of money you pay to the landlord as a condition of being allowed to have a tenancy. They are standard practice with long leases, where you generally have a high premium of many thousands of pounds and a low ‘ground rent’.
Originally premiums were often charged for short lets. They were known as ‘key money’. During the first world war they were frequently charged as a way of avoiding the rent control legislation. Because of this they were outlawed, and this prohibition was eventually confirmed in the Rent Act 1977. Premiums were only permitted for long leases, ie leases for a term of 20 years or more.
Under the Rent Act, the definition of ‘premium’ included (s1289(1)(c)):
any sum paid by way of a deposit, other than one which does not exceed one-sixth of the annual rent and is reasonable in relation to the potential liability in respect of which it is paid
Premiums in the Housing Act 1988
The Housing Act 1988, introduced by the still relatively new Thatcher government, radically changed the law relating to renting property, and the law relating to premiums was no exception. Premiums are no longer illegal for assured and assured shorthold tenancies, as they still are for tenancies governed by the Rent Act 1977. However their exact status remains (for me at least) somewhat opaque.
Section 15 of the Housing Act 1988
The main mention of them, that I can find, is in section 15. This section relates to the assignment of tenancies without the consent of the landlord. Something all landlords will be keen to avoid, as they will not want the tenancy legally transferred over to a tenant who may be unsatisfactory and/or unable to pay the rent.
In essence s15 says as follows
- All periodic tenancies will have an implied term saying that tenants cannot assign without the consent of the landlord (s15.1) whether or not the landlords refusal is unreasonable (s15.2)
- If the periodic tenancy is not a statutory one (i.e. if it is not one which is created by any statute, such as s5 of the Act), then s15.1 does not apply if
- The question of assignment is covered by the terms of the tenancy agreement itself, or
- A premium is payable on the grant of the tenancy or its renewal
- A premium will be one of the following (s15.4):
- A ‘fine’
- Any ‘pecuniary consideration’ payable as well as the rent, or
- A deposit if this is more than one sixth of the annual rent – i.e. two months.
- if you have a periodic tenancy which is not a statutory one, then if there was a premium paid or payable, the landlord will not be able to prevent the tenant from assigning the tenancy if he wants to.
- However if there is no premium, then (for periodic tenancies) the landlord can prohibit assignment absolutely, and the tenant cannot challenge this on the basis that the landlord’s refusal to grant consent is unreasonable.
Is this worth worrying about, I was asked recently, bearing in mind that very few tenancies are contractual periodic tenancies?
My answer is that a tenancy may become a contractual periodic tenancy by agreement with the tenant, and the prospect that the tenant may then be entitled to assign the tenancy without the need for the landlords consent, is a compelling reason for avoiding deposits of more than two months rent in all tenancies.
Even if, in these circumstances, the landlord can end the assigned tenancy under section 21, this will only be after service of a notice of not less than two months, and possibly court proceedings, which could easily take a further two months or more. A tenant can do a lot of damage in four months.
Section 115 of the Housing Act 1988
However there is then section 115, which relates to premiums for long leases. This is saying effectively, that premiums are allowable provided the lease cannot be ended for 20 years after the date the lease was granted.
Does this then mean though, that if a premium is paid, this will effectively convert the tenancy to a 20 year lease? And if so, will the definition of a premium still include a deposit for a sum equivalent to, more than two months rent?
A quick scout around my textbooks, shows a dearth of information on the whole question of the relationship between deposits and premiums. It would be interesting to hear from lawyer readers with their views on this point.
Section 54 of the Law of Property Act 1925
This is the final piece of legislation which I have found which will affect us. The LPA 1925 s54 is the act which states that all deeds transferring or conveying legal title or ownership of property (which includes tenancy agreements as these transfer ownership of the property for a period of time) must be by way of a deed.
However there is an exception to this rule, if the tenancy is to take effect immediately, at a market rent, and provided a ‘fine’ or premium is not payable. You can read more about signing tenancy agreements as a deed here.
To summarise, my researches show as follows:
- If you take a deposit of more than two months, this will be classed as a premium
- If you take a premium, you will not be able to prevent your tenant from assigning your tenancy, if it is a contractual periodic tenancy, and
- You will need to get the tenancy agreement signed as a deed.
I also flag up the possibility that taking a premium may mean you cannot end the tenancy for 20 years.
What do you think? Is there anything I have left out?