By Dr. James M. Dahle, WCI Founder
Dave Ramsey is taking some flack in the traditional and social media for an answer he gave on his program recently. I'm not going to defend everything Dave says or how he says it; I have certainly criticized him myself on this blog more than once. However, his general argument in this case was correct.
He was asked by a viewer if landlords should feel guilty about raising rental rates, because they might be Christian and because they're worried about displacing families. Here's the clip of his answer:
The reaction looked like this in my local newspaper:
Social media was even worse (as usual):
I was surprised to see such vehement disagreement with what I thought was pretty much common sense, so I polled my Twitter followers:
More than three-fourths were in 100% agreement.
Capitalism and Socialism
There are still plenty of socialists in the world. Personally, I'm a proud capitalist. I'm not a capitalist because I think capitalism can do no wrong. I know that it does, and I put many dollars toward both governmental and charitable organizations every year to cure some of those ills. I'm a capitalist because capitalism is the worst system out there except for everything else we've tried so far. Capitalism is hard, but it's better than everything else.
Let's carry the line of thinking in some of the media and social media postings to its logical extreme and point out why charging below-market rents long-term is often a bad idea.
It's a Free Country
First, let us say this: if you are a landlord, you may charge whatever you want for rent. Seriously. Your property. Your right. You can charge below-market rent, market rent, or above-market rent. You can raise rents, leave them the same, or even lower them. As long as you follow the rental laws in your state, you get to do what you want. It's your property. If anyone wants to dispute this, they have literally thousands of years of case law they will have to somehow overcome. We're not talking about legal obligations in this post, only moral obligations.
Decisions Carry Consequences
However, while we are free to choose in this life, we are not free from the consequences of our choices. It's like a stick: you can't pick up one end without picking up the other. What you charge in rent has consequences on you, your family, your tenants, and society at large. You should consider all of them when you make decisions.
Obligations to Tenants
A landlord absolutely does have obligations to tenants. There are legal obligations (see your state laws for details) but also moral obligations. The landlord needs to have a clear contract with clear expectations for the tenant. If the tenant keeps their end of the deal, the landlord should keep their end. If there was no damage to a property, the damage deposit should be returned in full. The tenant should not be illegally discriminated against based on things that do not matter. If there is an issue with an appliance, a door, or with the plumbing, the landlord should fix it ASAP. However, I do not think a landlord has some sort of moral obligation to charge anything but the most money that landlord can get for the space.
It's very similar to negotiating a salary at your new job. Do you think that because you're a Christian (or a Muslim or a good person with no faith whatsoever), you have an obligation to work for less? To sell your labor for less than market rate? Of course not. You expect to be paid a fair rate in exchange for your time. So does your property.
Be a Human
Now, just because you can do something does not mean you should do something. Consider Dave's explanation from the call:
“I've had situations because I manage a property with a heart and a head . . . that someone is sick. I remember a long time ago, a lady had cancer. Am I going to evict someone while they're going through chemo? No, I'm not. I'm going to work with them. I'm going to be kind. I'm going to have clear conversations. I want to know what's really going on. I don't want to be duped by the situation. But on the other hand, I also want to treat other people like I want to be treated. That's a Biblical mandate. If I were in the situation, how would I want to be treated. Well, I'd love some mercy and some grace. But mercy and grace because rents went up in general and I can't afford to live here anymore . . . because of inflation?”
I don't think I could have said it better myself. But are the headlines in the media, “Dave Ramsey provides cheap housing for cancer patient?” No, of course not. They're “Dave Ramsey is a f***ing parasite.” Somehow, for some reason, people expect this particular investment, this particular business, to have different rules than any other business.
It reminds me of another line of business I know of where people expect free services: emergency medical care. I'm always astounded to meet people who expect me to work on them for free but would never in 100 years go to a grocery store and expect that store to give them free groceries. It's the same issue with rent. There is no constitutionally given right to housing, groceries, or medical care. Even EMTALA laws contain no obligation to work for free. They simply say you cannot ask for payment prior to rendering care. While effectively the same thing for many patients, there is a subtle and important difference. If society expects someone to provide free or discounted housing, food, or medical care, then it needs to pay for it via taxes or charitable contributions.
Everyone likes the idea of getting something for free. At first glance, it sounds awesome, but there are consequences to our actions. Let's talk about them.
The Consequences of Below-Market Rent on Other Landlords
First, let's consider the effects of offering below-market rent on other landlords. If you are offering below-market rent, you are artificially lowering the amount of income that other landlords can charge. Now, they must compete with you. Lower rents push down the value of their rental properties, depress the income they live on, push down their ability to provide nice places to live, and make it more difficult for them to purchase or build additional properties.
The Consequences of Below-Market Rent on Homeowners
Speaking of property values, you know who else below-market rents affect? That's right, homeowners. They scrimp and save up a down payment and then pay on a mortgage for years. They did everything right. Yet, there is some guy in their neighborhood renting out a bunch of houses for way less than market value. That lowers the value of the landlord's properties, but it also lowers the value for the homeowner. Why would anyone want to buy their house if they can just rent a place in the same neighborhood from the below-market landlord guy? They wouldn't.
The Consequences of Below-Market Rent on Investors
Consider an investor that does not yet own any rental properties. This investor is choosing from a plethora of investments. Maybe they'll open a franchise. Maybe they'll just buy some stocks or cryptocurrency. Bonds, mutual funds, precious metals. There are plenty of choices. One of those choices is investment real estate. But if an investor can't get a decent return out of investment real estate because it would be immoral for them to charge market rents, then they will invest elsewhere. If enough people do that, there will be fewer places to rent, and rent will go up for everyone. Affordable housing depends on investors charging a fair price and earning a fair return on their investment.
The Consequences of Below-Market Rent on Renters
It isn't just the wealthy property owners that are hurt by below-market rents. Think about what has happened in a place like California with Prop 13. This proposition basically made it so property taxes only go up when you move. If you stay put, taxes never go up. This lowers mobility of the workforce, decreases career opportunities, hurts incomes, increases commuting, destroys the environment, and forces people to stay in crummy neighborhoods. It's unforeseen consequences. Does Prop 13 help people stay in their homes? Yes. Does it help people move? Absolutely not. In fact, it heavily incentivizes them not to move. The exact same thing happens when landlords are offering below-market rent either by choice or by law.
There are other issues, too. When a renter is paying market rent, they have no qualms whatsoever asking the landlord to do their part—to follow their contract and to maintain the home properly. When they are paying less than market rent, they don't want to bug the landlord. They worry if they are too needy, the landlord will raise the rent. So, the property gradually falls into disrepair. Now the renter is living in a crummy house or apartment. Even if the landlord is very diligent about keeping an eye on it, the landlord has less money to use to keep it up. It's not like 100% of that rent payment is profit. In most situations, it's more like 10%-20%. It doesn't take much of a rent discount to wipe out all the profit in many situations.
When rents are artificially held down, there is less housing available. Nobody is moving, and no investors are building new homes or apartments. Now a renter can't find a place to live at any price. A dysfunctional market is not doing anyone any favors.
If “nice” landlords don't raise the rent, guess who is going to be the landlords in a while? That's right, the mean people. The nice ones find somewhere else to invest their money and get out of the business. Even if they don't, since the mean people have higher returns, they end up owning more and more of the properties. Now, all renters end up with mean landlords. That's not good either.
The Consequences of Below-Market Rent on Givers
Sure, it's nice to charge someone below market rent. I like being nice. I like giving money away to good causes. But when you charge below-market rent, you are saying “My favorite charitable cause is my tenant. I prefer to give money to them rather than use the money to free children across the globe from child traffickers or feed the local homeless.” Now if that's really the way you feel, that's fine. But I prefer supporting needier people, even if it means my tenant has to find somewhere cheaper to live and I have to go through the hassle of finding a new tenant.
Below-Market Rents Can Be Discriminatory
Here's another issue. To whom are you most likely to give a below-market rent? Someone you like. Someone you know. Someone you spend time with. They may share the same religion, gender, race, or sexual orientation as you. While it is illegal to discriminate against anyone when renting a place out, nobody is watching who avoids rent increases. So what happens? Minorities of whatever persuasion are discriminated against.
One Reason I Don't Invest Directly
It's really easy for me to say I'm a hardcore capitalist and that I'm always going to charge market rents. But let's be honest. I'm kind of a nice guy. I work for free for 20% of my patients as part of my chosen career, and I consider it an honor. I've had one direct rental property. Not only did I feel bad raising rents, but I also really disliked the hassle of finding a new tenant. Between those two qualities, below-market rent was inevitable. I discovered I didn't want to deal with it, so I quit dealing with it.
Now, I hire other people (via REITs, funds, syndications, etc.) to deal with it. It's really not all that different from any other business. I felt bad raising the prices for ads here at The White Coat Investor on people who had been with me for years, despite the fact that we were providing excellent value for their dollars. I didn't really need the money; I was practicing medicine on the side so I felt bad raising the prices as much as I should and continued to “give away the store.” I eventually hired somebody else to raise the prices and compensated her to do so. Without her taking over that task, there would be no White Coat Investor for you to be reading today, and the other 12 jobs that were created using the funds she collected would not exist either. If you mess with markets, somebody always gets hurt, whether you can see that person or not.
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The Bottom Line
If you want to charge somebody less than market rents temporarily because they are going through a hard time, I applaud you for your generosity. If you are doing it long-term, I would ask you to consider the impact of your decision on yourself, your family, your tenants, other tenants/homeowners/landlords/investors, and people all over the world in need of your generosity. Don't feel guilty about charging a fair price for a good product or service. You are helping the world by doing so.
What do you think? Do you think a landlord has an obligation to charge less than market rent? If so, under what circumstances and for how long? What have you done in the past? Comment below!
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