Abacus: The Preferential Rent Scam

Royal Crest is a property management LLC based out of North Andover, Massachusetts, wherein you can find rentals in the close area. I’ve looked through many of the apartments available; most are two and three-bedroom crash pads and all are fairly affordable. You can apply for a rental property directly on the site and get a quote based on some simple information. I actually did apply for an 885-square foot apartment with two bedrooms and one bath, available for 15 months at $1649 plus utilities. I even got a call back from one of the agents the next day asking about my availability for a visit.

The deposit was only 500 bucks, I needed only the very limited credit I have right now, plus a couple bank statements and possibly a guarantee from one of my parents. Right on the front page, they offered a “Move-in Special”, two weeks of free rent on select homes if you apply by June 4th.

This is known as a rent concession, which is essentially a situation in which a landlord will offer deals to new tenants so they move in. Royal Crest in Massachusetts is just one example, but landlords have been coming up with “increasingly creative offers” to lure in tenants, especially in New York City. Traditionally, rental season starts going strong during the summer season, i.e. College grads looking for new apartments and people moving when the weather is nice. 2017 has been no different in NYC, with a huge influx of apartments pushing the supply curve way to the right (for all you micro 101-ers), hence why offers like no safety deposit and months of free rent have become more prevalent, to snatch up the new tenants (and possibly lure others away from their past rentals.) For example: check out this lucrative offer below (for a Portland, Oregon apartment, but the same idea.)

Because of this influx, Ronda Kaysen of the New York Times referred to this season as the “Year of the Renter”. Vacancies are increasing, and evictions are down by almost 20%. From a simple economic analysis, you can understand that the excess supply finally allows for NYC tenants to grab the upper hand in a city generally dominated by very high rental rates. NYC renters have also always been protected by a 1970s law known as Rent Stabilization, which protects up to two and a half million tenants in the five boroughs, and the greater NYC area, from things like steep rent hikes and random evictions. As a result of all this, rental rates have actually somewhat flat lined over the past year.

Regardless of the forward economic moves that tenants have made against their landlord counterparts, more than half of all NYC tenants are “cost burdened”, i.e. they spend more than a third of their total income on rent and utilities. And, evictions may be decreasing exponentially, but there are many backdoor alleyways landlords have access to that can very easily force tenants out indirectly. So, on top of the estimated 2.7 million tenants who faced eviction in the U.S. last year, the many more who face being thrown out for reasons equivalent to eviction have some economists claiming this is a “national crisis.”

Source- Ronda Kaysen, The New York Times

This year’s trend for forcing unwanted tenants out comes in a loophole from the above-mentioned Rent Stabilization law, known as “Preferential Rent”. Rent Stabilization in NYC involves a legally regulated rent; for the sake of explanation, say the legal regulated rent on my two-bedroom I’m about to rent from Royal Crest is $1,500. Fortunately, my wonderful landlord is charging me a Preferential Rent of only $1,000. The problem is, after my 15 month lease goes up, even though the law protects me from “[p]rotection from steep and unexpected rent increases“, when I go to renew my lease (protected by the law on the grounds of: “The right to renew your lease and be protected against arbitrary evictions”), my landlord can hike up my rent to the legally regulated rent of $1,500. That’s a 33% increase in my rent, which has to be way above the restrictions on rent hikes!

As Cezary Podkul writes for The Real Deal: “for renters in almost 30 percent of the city’s 860,000 rent-stabilized apartments, the law’s protections against steep rent hikes have vanished thanks to a late-night loophole created by state lawmakers in 2003,” the loophole being Preferential Rent. Now, these landlords can just boost the rent to a legal maximum without any legitimist reasoning. Another catch to this, all the aforementioned rent concessions can be considered as preferential rent.

In this loophole scam, tenants who have gained some economic ground in the NYC real estate market can now be kicked to the curb by a ridiculously high hike in the rent whenever a lease comes up for renewal. The landlords now offer low “teaser” rental rates, tons of rent concessions, luring in unknowing tenants who could otherwise lock into a more stable lease in the City, and then screw them due to the loophole. Some of these tenants may be forced into renewing for the higher rate, as they can’t simply pick up and move their family away from the kid’s schools, or the parent’s jobs, et cetera.

For myself, this idea brings to mind adjustable rate mortgages offered during the 2008 crisis. It’s profitable, as they are able to take advantage of the market of people who couldn’t originally afford the apartments at the higher legally regulated rate. The scam isn’t only immoral, but also seems risky and unstable in the same way that giving mortgages to undeserving house buyers was during the ’08 crash. Dennis Fasset wrote a book, “How to Buy Your First Set and Forget Rental House” (check out the PDF here), in which he writes basically a how-to on becoming a landlord. In the first chapter, he makes two big points: 1) there is a huge supply of exceptional houses, selling for cheap, leftover from the foreclosures during the housing crash, and 2) there is an incredibly high demand for high quality rental houses by renters screwed by their adjustable rate mortgages. Fasset wrote of a conversation he had with his first tenant in 2005: Her and her husband bought their first beautiful home on an adjustable rate mortgage, but as the rates started to rise and rise, they couldn’t make the payments and had to give the house back to the bank. The heartbreak was so great, they vowed to never buy another house again.

There were thousands of people who were put through the same adjustable rate-situation during the housing crash, and have also moved to renting. My fear: These same people who were screwed by teaser mortgage rates will then be duped by teaser rental rates, and once again lose their dream homes due to asymmetric knowledge of unfair circumstances, at least in New York City. I supposed the moral of this story is: buyer beware.