Pennsylvania Court holds that collecting the last month's rent is really an additional security deposit?

Is this a case of 'bad law' or did the Pennsylvania Superior Court see an opportunity to address a wide-spread practice that it felt was questionable?

On November 15, 2017, the Pennsylvania Superior Court decided E.S. Management v. Yingki Gao, a case in which four students from China elected not to rent an apartment but were refused their requests to have their security deposit refunded. The facts, as reported in the opinion, are as follows:

Four international students from China were looking for student housing for the 2014-2015 school year at Carnegie Mellon University in Pittsburgh. One of the students had a friend in Pittsburgh who went apartment hunting for them, and found a place that was managed by E.S. Management. The rent was $1,995 per month; on June 11, 2014, the aunt of one of the prospective students wired $5,785 to E.S. Management to ensure that the apartment would not be rented to anyone else while the prospective tenants went through the application process. E.S. Management calculated this amount by adding two months' rent ($3,990) as a security deposit, a $100 non-refundable application fee, and the last month's rent from which E.S. Management discounted $200 as a credit for pre-paying it ($1,795). Two days later, on June 13, 2014, the students notified E.S. Management that they would not rent the apartment. At that point, only one of the four students had submitted an application, while E.S. Management required all prospective tenants to apply if they intended to live there. E.S. Management was asked to return $5,785, which included the two months' security deposit, plus the last month's rent. The student did not ask for the $100 application fee to be returned.

E.S. Management refused to refund any of the money.

Although E.S. Management won before the magisterial district justice, the case was appealed and went first to mandatory arbitration, then to a jury trial, then to a bench trial, before finally being decided by the Superior Court. While E.S. Management won at the initial level, the subsequent decisions held against the management company.

The Superior Court's analysis of collecting the last month's rent is interesting and incredibly important to the landlords and property managers across the Commonwealth. It is a widespread - though not universal - practice for landlords and property managers to collect the first month's rent, the last month's rent and some additional amount as a security deposit. Those who employ this business model most likely consider the last month's rent as "pre-paid rent" which, until now, has not been considered part of the security deposit. All that has changed.

In affirming the trial court's decision, the Superior Court quoted its rationale, providing "it is disingenuous for E.S. Management to assert that rent paid twelve months before it is due is not for 'default in rent.'" (Emphasis added.) Moreover, E.S. Management employees testified that the money collected for the last month's rent would be used to pay for the last month's rent in the event that the tenant did not pay the rent when it was due. The takeaway for the Court appears to be that even E.S. Management employees believed that the last month's rent was being held as security in the event that tenants did not pay the last month's rent when it was due. The conclusion that the Court felt compelled to draw is, collecting the last month's rent at the beginning of the lease term is part of the security deposit.

The Landlord and Tenant Act of 1951 prohibits a landlord from requiring an amount in excess of two months' rent to be held as a security deposit in the first year of a residential lease. That amount is reduced to one month's rent the second and all subsequent years of that residential lease. The Court found that in addition to violating the Landlord and Tenant Act by collecting an amount in excess of two months' rent, E.S. Management also violated the Unfair Trade Practices and Consumer Protection Law based on its conduct throughout this transaction. The Court awarded treble damages plus all legal fees and costs incurred by the students extending back to the action brought before the magisterial district justice.

For real estate licensees who are landlords or property managers, this decision may affect how you account for the funds received as the "last month's rent." Because this decision suggests that pre-paid rent is really part of the security deposit, licensees need to account for it as part of the security deposit. If a property manager does not maintain security deposits, but does maintain rent for the property owner, it is now problematic to deposit the last month's rent into the rental account; rather, it may need to be deposited into the escrow account in which other security deposits are being held.

One key takeaway from this case is that both the trial court and appellate court did not believe that collecting the last month's rent was prepaying rent. The courts called such testimony "disingenuous". This does not necessarily preclude paying rent in advance, but if your practice has been to collect the last month's rent, then that practice should be reevaluated.