How Security Deposits are Held

State laws and local ordinances determine how security deposits are to be held. You should check your state laws and local ordinances to find what laws apply to you. For example, the state of California does not require interest to be paid on deposits, but the cities of Berkeley and San Francisco do. So if you’re a landlord with rental property in the city of San Francisco, you will have to pay interest on deposits.

During the time the tenant lives in the rented unit, the deposit belongs to the tenant and cannot be used to satisfy the landlord’s debts or creditors. State laws and local ordinances sometimes specifically state how these deposits must be held. Deposits may have to be held in separate accounts or interest-bearing accounts paying a specified interest rate. There may be different requirements if a landlord has several rental units. The interest on such accounts may have to be paid to the tenant at a specified time or the landlord might be permitted to retain an administrative fee. In some states there are no limitations and landlords commingle the tenants’ security deposits with their own funds and are only responsible to return the money when the tenant leaves. Both landlords and tenants should check their local laws to find out what is required.

Tenants who rent rooms to roommates may be in the position of the landlord and required to pay interest on security deposits to their subtenants.

Interest income is taxable, and you should consult a tax advisor to determine whether the liability belongs to the landlord or the tenant.

For FAQ about Landlord/Tenant Law, visit the Free Advice website or ask a question about your landlord-tenant issue on our Free Advice Law Forum to see how others have handled similar situations.

Exploring Case Studies: Understanding Security Deposits

Case Study 1: The Separate Account Requirement

Mary, a tenant in the state of New York, recently moved into a new rental apartment. As per the local ordinance, her landlord, John, is required to hold her security deposit in a separate account. However, John fails to comply with this requirement and commingles Mary’s deposit with his personal funds.

Several months later, Mary decides to terminate her lease and requests the return of her security deposit. Upon investigation, she discovers that her deposit has been used by John to cover his own debts. In this case, John has violated the local ordinance and is legally obligated to return Mary’s deposit in full.

Case Study 2: Interest-Bearing Account and Administrative Fee

David is a landlord in the city of San Francisco, California. The local law mandates that landlords must hold security deposits in interest-bearing accounts and pay interest to tenants at a specified time. However, the law also permits landlords to retain a reasonable administrative fee from the interest earned.

David diligently follows the law by placing the security deposits in a separate interest-bearing account. At the end of each year, he calculates the interest accrued and deducts a reasonable administrative fee as allowed by the local ordinance.

When his tenants, Sarah and Mark, move out after three years, David returns their security deposits along with the interest earned, minus the administrative fee.

Case Study 3: Tenant as Landlord

Alex, a tenant in the state of Texas, rents a three-bedroom apartment and decides to sublet two of the rooms to subtenants. According to state laws, Alex is considered the landlord for the subtenants and must comply with the same regulations that apply to landlords.

One of the requirements is that Alex must pay interest on the security deposits collected from the subtenants. He opens a separate interest-bearing account and periodically pays the earned interest to his subtenants. When the subtenants decide to move out, Alex returns their security deposits in accordance with the law.

Check out these related articles:

Security Deposits

How Much a Landlord Can Charge for a Security Deposit

Getting Back Your Security Deposit

Inspection of the Premises

Returning Security Deposits

Tenants’ Privacy and Landlords’ Access

State Laws: Landlord/Tenant