With New York’s Rent-Stabilized Housing, Someone Eventually Has to Write the Check

One of the most frustrating aspects of the debate surrounding New York City’s rent-regulated housing stock is that it has become almost entirely ideological. One side argues that rents should remain frozen to protect affordability. The other argues that buildings require sufficient revenue to remain financially viable. 

Politicians, tenant advocates, landlords and economists all have passionate opinions, but, unfortunately, opinions do not determine outcomes. Mathematics does. The laws of economics don’t care whether you are a Democrat or a Republican, a landlord or a tenant, a capitalist or a socialist. Eventually, the numbers always win.

Recently, there has been considerable discussion about the financial condition of rent-regulated buildings, particularly whether owners who struggle financially simply borrowed too much money when they acquired their properties. 

Some argue that debt service should not even be part of the conversation. If an owner cannot make the numbers work after a rent freeze, they say that is simply the consequence of making a poor investment decision. While there are certainly owners who have overleveraged their buildings, focusing on debt misses the much larger issue. Let’s remove debt from the discussion entirely.

Imagine two identical rent-regulated apartment buildings. One has a substantial mortgage while the other is owned completely free and clear. Which building survives longer under a prolonged rent freeze? Obviously, the debt-free building does. But does it survive forever? Absolutely not. 

Why? Because expenses continue to rise while revenue remains stagnant. Insurance premiums continue increasing. Union labor costs continue increasing. Fuel costs continue increasing. Water and sewer charges continue increasing. Construction materials continue increasing. Compliance costs continue increasing. Boilers wear out. Roofs need replacement. Elevators require modernization. Façades require repairs. Plumbing systems fail. None of these expenses stop because the Rent Guidelines Board (RGB) votes to freeze rents.

Let’s take the thought experiment one step further. Assume a building has no mortgage whatsoever and, because it has somehow been transferred to a nonprofit organization, pays no real estate taxes either. At first glance, that might appear to solve the problem. But it doesn’t. 

Even without debt service and even without property taxes, if operating expenses continue increasing by approximately 7 percent annually while rental revenue remains frozen, simple mathematics tells us where this story ends. Expenses compound every year while revenue does not. Over time, those two lines inevitably cross. Whether it takes five years, 10 years or 15 years depends on the assumptions, but eventually operating expenses exceed operating income. At that point, even a debt-free, tax-exempt nonprofit building begins losing money.

That is why I believe so much of the current debate misses the fundamental issue. Buildings don’t care who owns them. They only know whether there is enough money coming in to pay the bills going out. Changing ownership does not change economics. A nonprofit pays contractors the same amount to replace a roof. It pays the same union wages. It pays the same insurance premiums. It buys the same boilers, elevators and plumbing materials at the same prices. The laws of economics apply equally to everyone.

Some advocates have proposed increasing enforcement against landlords who fail to maintain their buildings while simultaneously freezing rents. Better maintenance is certainly a worthwhile objective, but where does the money come from? If owners already struggle to cover rising operating costs, imposing additional repair obligations without creating additional revenue simply accelerates financial distress. Buildings will default more quickly. More foreclosures will occur. More buildings may ultimately be transferred to nonprofit ownership. 

But transferring ownership does not create cash flow. It simply changes the name on the deed and may simply delay the inevitable, which is a building that cannot afford to pay for its upkeep. And, if nonprofits are given relief from real estate tax obligations, how does the city make up the revenue shortfall?

Affordable housing is an objective that virtually everyone supports, myself included. The disagreement has never been about the destination. It has always been about the path. Housing cannot remain affordable if the housing itself cannot be financially sustained. Every building requires continual reinvestment simply to remain safe and habitable. The only question is who pays.

There are really only three long-term possibilities. Rental revenue increases enough to keep pace with operating expenses (which is what the RGB is supposed to be doing). Government provides permanent and growing subsidies to bridge the gap. Or buildings gradually deteriorate because there simply isn’t enough money available to maintain them. 

There isn’t a fourth option. Hoping the math somehow changes is not a housing policy.

Unfortunately, much of today’s political discussion assumes that economics can be legislated away. History tells us otherwise. Every year that expenses rise while revenue remains frozen, deferred maintenance grows, capital improvements are postponed, financial stress increases, and living conditions worsen for tenants. 

Eventually, someone has to write the check. If it isn’t the tenant through higher rents, it will be the taxpayer through subsidies. If neither happens, the building deteriorates. Those are the only possible outcomes because mathematics always has the final vote.

New York has long prided itself on pursuing ambitious housing policies designed to protect tenants, and affordable housing is unquestionably an important public objective. But good intentions cannot repeal the laws of economics. If we truly want to preserve affordable housing for future generations, we must develop policies that satisfy both our social objectives and the underlying mathematics that govern every building. 

Ignore those numbers long enough, and they eventually become impossible to ignore. Buildings don’t care about politics. They only know whether there is enough money coming in to pay the bills.

Robert Knakal is founder, chairman and CEO of BK Real Estate Advisors.