The Property Management Shop
by Marc Wilson
Q. I noticed in the last issue of SF Apartment Magazine that the interest rate payable on security deposits is now 5.2%. This is crazy. My wife says that I should just return all of my tenants’ security deposits. It would save me more than $600 a year in interest payments. What do you think I should do?
A. I had a feeling that this bird would come home to roost. There sure was a lot of fanfare and self congratulation back in 2004. Many San Francisco property owners had been complaining bitterly for years about paying a 5% fixed interest rate on the security deposits they held. So they mobilized and got the law changed. Today, the rate is calculated according to the Federal Reserve Six-Month CD Rate. But the change was a fleeting victory at best. Now the rate for security deposit interest payments has ballooned to 5.2%, up from last year’s comparatively paltry 3.7%. Even way back in 2004 I didn’t think it was worth fussing with the interest rates because of the increased paperwork alone. Going from a 5% fixed rate to a 3.7% variable rate has resulted in a lot more work.
Think about it: every year will have a different interest rate. Doing a simple security deposit disposition has morphed into a complicated, multiyear, multirate computation. One has to prorate by the month and prorate by the year and determine the appropriate rate. It makes my brain hurt just thinking about it. It would have been better off the way it was.
Why in the world does the city have to regulate the interest rate paid on security deposits in the first place? The regulation of interest rate payments on security deposits is a hopeless waste of time, energy and money. What difference does it make to the average tenant if he is getting 3%, 5% or 0% on his $2,000 security deposit? Many San Francisco tenants will retire with little or no net worth. Does anyone honestly believe that mandating interest rate payments on the security deposits held by San Francisco rental property owners will do anything to alter this embarrassing fact? I don’t think so. And what does it matter to me if your average owner is paying tenants 3%, 5% or 0% on their security deposits? How will the net worth of your average owner be affected by this legislation over a 30-, 40- or 50-year period? I think we all know the answer to that question. All of this just adds up to one thing: political posturing on both sides. Since it doesn’t matter to either party what, if any, interest rate is paid on security deposits, why regulate it in the first place? Why not let those owners who want to pay interest on their security deposits pay interest and let those owners who don’t want to pay interest forgo these payments? Will tenants choose between available apartments based on whether or not the owner pays interest on security deposits? Doubtful. Why not let this market self regulate? My only desire is to professionally and ethically manage my business while spending the least amount of time and energy to do so. Regulating the interest rates for security deposits doesn’t benefit the tenant and it sure doesn’t benefit the owner; it just wastes a lot of time.
The easiest thing to do is to simply not make yearly interest payments on security deposits; rather, pay all accrued interest when the tenant vacates and you prepare and mail your security deposit disposition. The vast majority of owners do not make yearly interest payments to their tenants. I know this because I sell apartment buildings for a living. One of the things that the title officer always asks for when a transaction is about to close is an accounting for historical interest payments on security deposits. Almost all of the time the previous owner has made no historical interest payments to the tenants, so the title officer calculates the amount payable and credits the buyer in the escrow account. The obligation to the tenant is transferred from one owner to the other. Property owners do not make yearly interest payments to their tenants for a multitude of reasons: they don’t realize that there is a law mandating this payment; they find the entire process too cumbersome and time consuming; and/or they figure that they will just make sure the tenants are paid whatever they are owed when they vacate. One way or the other, the yearly payments usually aren’t made and no one, including the tenant, seems to care.
If your tenant demands or even politely requests yearly interest payments (very few ever do), then by all means, make the payments. I don’t think there is any significant risk in not voluntarily making yearly interest payments in the absence of a tenant demand. Punitive damages do not apply to security deposit interest payment issues. Also, there is no obligation to compound the yearly interest payments if and when you pay the tenant upon the termination of the tenancy. In essence, by not paying yearly, one gets to borrow the yearly interest payments during the life of the tenancy and avoids the increased workload associated with yearly payments. It is best to follow the lead of the U.S. military when it comes to paying interest on security deposits: don’t ask, don’t tell.
So, should you return your tenants’ security deposits? I wouldn’t. In the absence of a security deposit, what motivation does the tenant have to remove all personal property from the unit and common areas when he vacates? What if you have to evict the tenant later in the tenancy? What if the hardwood floor is damaged by the tenant? It costs too much to rectify unit damage and other breaches of the rental agreement without a security deposit. Any yearly interest costs that you might or might not incur do not outweigh the inherent financial risk of a tenancy without a security deposit.
The opinions expressed in this article are those of the author and do not necessarily reflect the viewpoint of SFAA or SF Apartment Magazine. Marc Wilson has specialized in the brokerage of San Francisco apartment buildings for 20 years. He can be reached at 415-229-1275. Copyright © 2007 by SF Apartment Magazine. All rights reserved.