That's kind of a strange system. Any idea how it evolved there? Basically sounds like the landlord has to invest the money in such a way as to get a return that would be equivalent to rent but also safe enough so that they can return the deposit. I don't think I'd want to be a landlord there.
Now interest rates are much lower, but Koreans got used to paying $0 rent and anything above that feels like they are being ripped off.
One reason landlords like the system is because they can daisy-chain the purchase of multiple properties. They take the first cheonsae deposit and use it to purchase another property, then use the cheonsae deposit from the 2nd property to purchase a 3rd property, and so on...
Even if landlords don't receive monthly rent, they expect to earn money on the increased value of the property. Cheonsae contracts are normally 2 years, then they can ask for more deposit or sell the property for a profit.
More info: https://en.wikipedia.org/wiki/Jeonse
That sounds like it’d be a disaster during a liquidity crunch.
Say I get $90,000 to go buy a house, I spend the $90,000 and have 1 door. I get a tenant in it and they make a $90,000 down payment. I then go buy another house and get another tenant in it and they make a $90,000 down payment. I now have two houses and still have the same amount of money I started with, I can continue this cycle and as long as property appreciates I don't just get the property appreciation from one house I get it from all of the houses so (% appreciation * property value * number of properties).
Say it is a $100,000 property and it appreciates 3%. If I had just bought one house and put the money in an interest yielding savings account I would get some low % return. If I instead chained it to acquire 10 houses I would get $30,000 return, which is 30%. But if the value of the house goes down it works against me!
Obviously this ignores transaction costs, interest costs etc.
Why wouldn't the tenant spend $90,000 on the house themselves, cutting out the middleman?
Usually cheonsae deposit is less than 100% of the purchase price, so it costs less. Even if the difference is small (10%), you are guarded from drops in real estate value. If you put down $90,000 deposit you should get back exactly $90,000 even if the property value dropped below that.
And perhaps cheonsae loans are easier to get than house mortgages. I'm not sure about this, but the deposit may be better collateral than the property?
If anyone knows a method to short Korean housing, please let me know!
And then they have to return the deposit eventually... how is this different from a Ponzi scheme? :P
This Korean system should work in theory. People generally don't move very frequently. As long as there's a liquid market for investments in stocks & bonds, and the housing appreciates in value over the long term, it's not a bad system.
Seems pretty favorable to the landlords too. They get $90k up front for a $100k house. Which they could invest for an 8% or so return, which, in the first year is ~$550/mo in rent, compounded each year, minus maintenance. Yield wise, $7k on a $10k investment ($100k house - $90k from renter) is fucking amazing.
The fact that is has been around for so long suggests that it works in practice too. Yeah, maybe a black swan event causes a liquidity crunch. But so long as the government steps in to provide liqudity (low interest mortgages would work), then it shouldn't hurt too bad. Worst case, foreign investors step in to buy up the real estate.
The "pool of capital" never grows here, either. Landlords get more assets (houses), but also more liabilities (deposits).
A Ponzi scheme is perfectly capable of having underlying investments, by the way. I'm pretty sure Madoff bought houses with his money, too.
> Which they could invest for an 8% or so return
Where the heck do you get an 8% return with no risk? I want in.
> The fact that is has been around for so long
How many decades did Madoff's ponzi scheme last?
There are worse places to make that bet.
Or let's put it this way: a rational bet is something like, this thing is worth $50 now, it will be worth at least $100 later. An irrational bet is one like "this thing will be worth more over and over again!" If everyone things like that, then the thing's price will keep rising until the bubble bursts.
South Korea has two characteristics that directly impact that: scarcity of land (relative to population) and a solid, world-leading economy in many high margin industries.
It's not inconceivable property with such qualities could increase in value forever, and still be properly valued.
So saying "Just like 2008 US" is a pretty pithy distillation of a number of complicated factors.
Do they not do home mortgages in South Korea? Are properties expected to go down in price?
You also get to avoid the risk of the landlord not giving you a large sum of money back.
I was thinking the same, but here's another way of framing it: they're like real estate agents [1] in the US, except that instead of keeping a 2.5%–5% commission at every sale, they keep the capital gains. They may not need to invest deposits at all to make money.
To me renting under this system doesn't seem clearly better than buying. You're paying most of the money to buy the property, but it's not an investment. You can't come out ahead. But at least there's no risk or hassle of doing property maintenance.
[edit: no, I just saw yongjik's comment: "Under the 'jeonse' system, if the landlord becomes bankrupt, the renter is suddenly out of a large portion of their total wealth, and will be evicted by the new owner - without any money to find the next place. (There are insurances to protect renters but the risk is still there.)" I don't think I'd like to rent under this system at all.]
[1] and property managers who handle repairs and such, but that's probably not how they make their money at $50/month.
It's actually greatly favorable to landlords. Just think about what happens when one side is out of money. Under the monthly rent system, landlords can't get any more money until they evict the renter (which is a lot of hassle, anywhere in the world). Under the "jeonse" system, if the landlord becomes bankrupt, the renter is suddenly out of a large portion of their total wealth, and will be evicted by the new owner - without any money to find the next place.
(There are insurances to protect renters but the risk is still there.)