The Long View: It’s time we finally ditch the security deposit

The institution harms renters and doesn’t do landlords much good either

TRD New York /
Feb.February 21, 2018 07:00 AM

(Photo illustration by Lexi Pilgrim for The Real Deal)

UPDATED, Feb. 26, 2:26 p.m.: We’ve come to accept it as a fact of New York life. When we sign a lease for an apartment we might be able to escape the broker fee, we might even get a month or two of free rent, but the security deposit — like death and taxes — is inevitable. That is finally about to change.

A small group of startups are offering alternatives to the rental apartment security deposit, and that’s great news. It’s about time we get rid of an archaic institution that saps New York’s economy of billions and hurts low-income renters.

To get a sense of how much economic damage security deposits do, here’s some back-of-the-napkin math: As of 2014 there were 848,721 market-rate rental apartments in the five boroughs, according to the New York City Housing and Vacancy Survey. New York’s average rent is around $3,100, according to Rent Jungle. If we assume each market-rate apartment demands one month’s rent as a deposit, that means $2.6 billion are sitting in escrow accounts at any given time. That doesn’t even include deposits for the city’s 1.03 million rent-stabilized apartments. Jetty, one of the startups selling deposit alternatives, guesstimates that around $60 billion are sitting in apartment rental deposit escrow accounts across the U.S.

In theory, the money isn’t lost: we merely put it in an escrow account and get it back at the end of our lease, ideally with interest. But in practice, we don’t. Most New Yorkers sign a new lease when their old one ends, meaning they merely hand the deposit from one landlord to the next. If they get it back at all, that is. Horror stories of landlords withholding deposits for no good reason or delaying repayment abound.

So what, a landlord might ask. Jetty’s $60 billion guesstimate isn’t that much money in the grand scheme of things — a mere 0.06 percent of U.S. household wealth. Banks can lend out funds from escrow accounts, spurring investment. And the deposit has a crucial psychological benefit: a renter knows the landlord can easily withhold money for any damage to the apartment, meaning she is probably more likely to be careful when she moves furniture or hammers a nail in the wall. Most landlords diligently return the deposit at lease end. Do we really need to ditch a tried and trusted institution?

The answer is yes. A $2,000 deposit means little to a millionaire, but it’s a lot of money for low-income New Yorkers who are already squeezed by rising rents. It keeps apartments just out of financial reach. It’s money that could be spent on school books, medical bills, rent itself or simply be put into a savings account. The whole point of savings is that you can spend them when you need them. A security deposit is money you can’t ever spend.

And sure, we all want to protect landlords against property damage. But there’s a much more efficient way of achieving that goal. It’s called insurance.

That, at least, is the logic behind Jetty and Rhino. The two New York-based startups offer landlords the benefits of a security deposit without forcing renters to actually pay it in full. In both business models, tenants pay a fee, and in return Rhino and Jetty promise to reimburse the landlord for any damage to the property up to a fixed amount. If it turns out that the tenant caused the damage intentionally or through negligence, he or she will have to reimburse the companies. Jetty, which is backed by Peter Thiel’s Valar Ventures, charges a one-time fee of 17.5 percent of the deposit amount, while Rhino charges a monthly fee, which ends up being around $25 for a $3,000-a-month apartment. Both firms aren’t technically insurers — they’re so-called managing general agents, licensed to sell insurance products backed by reinsurers. If a landlord accepts the renter, they’ll accept them too.

Where Jetty and Rhino go the insurance route, Rentberry leaves the deposit untouched but offers a new way to pay for it. Tenants can make a 10 percent down payment on a deposit using a cryptocurrency, and investors on the company’s online marketplace lend the remaining 90 percent in return for interest payments. It’s basically the same as getting a loan to finance your deposit, but it’s done via blockchain technology and Rentberry claims rates are cheaper (3 to 4 percent per year).

The big question is: will landlords embrace these alternatives, offered by firms that aren’t exactly household names? “The real estate industry is certainly one of the oldest professions out there, so there’s some natural inertia,” said Rhino’s founder Paraag Sarva (who is the brother of Knotel’s Amol Sarva). “It’s largely about ‘if it ain’t broke don’t fix it’.” He’s still optimistic, in part because a surge in construction has made the New York rental market more competitive for landlords. Concessions are on the rise. Offering tenants a way around the deposit can give building owners an edge over rivals, Sarva argued.

Jetty’s co-founder Mike Rudoy pointed to a second trend that could boost deposit alternatives: a growing number of multifamily buildings are in the hands of institutional owners. Private equity firms have a known penchant for going after inefficiencies and cutting costs. So why not start with security deposits? Not only do they harm tenants, they also require a bulky bureaucracy to oversee payments and escrow accounts. “A lot of overhead goes into managing security deposits,” he said. Tellingly Stuyvesant Town, the Blackstone Group-owned apartment complex in the East Village, is one of the New York properties offering Jetty.

The three alternatives have their downsides. Rentberry burdens tenants with debt. Jetty and Rhino aren’t exactly cheap. And while the landlord gets to benefit from the insurance, the tenant pays for it. It’s basically a reverse concession: a perk the tenant has to offer to the landlord (on top of rent) to sweeten the lease. But flaws aside, the three firms at least offer tenants an alternative to deposits, and that’s a step in the right direction.

(Read more of The Long View here.)

Correction: an earlier version of this post inaccurately claimed that deposits in escrow accounts do “absolutely nothing.” In most cases they earn a low yield as banks invest the funds.

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