Those who have traveled to New York City know that the streets are teeming with yellow cabs. These ubiquitous vehicles are constantly patrolling looking for those who need a ride. To the casual observer it seems that these vehicles can be owned by anyone, driven by anyone, and must rake in a lot of money (not for the driver, but for the cab company). But take a few minutes to dive a bit deeper; there is a lot more than meets the eye when it comes to making money with a cab in NYC.

The Early Days of the NYC Cab

In order to fully understand the modern functioning of the New York City taxi industry, we have to take a look back at how it evolved. It’s an interesting coordination of supply and demand that is being overseen by government regulations.

Back during the Great Depression, which lasted from 1929 through most of the 1930s, working men were laid off by the thousands every day.  With basically nowhere else to turn, thousands of those men became NYC taxi cab drivers. Almost overnight the number of cabs on the road exploded, and suddenly supply was far greater than the demand. The cab industry was destined for destruction, so the government stepped in to regulate it. In 1937, New York City created the taxi cab medallion system.

The Basics of How the Government Regulates Cabs in NYC

A medallion, generally speaking, is a piece of metal that signifies an achievement, award, or certification. The NYC cab medallion is a piece of metal that is attached to the hood of the car signifying that the vehicle is legally able to operate as a cab in New York. The number associated is also displayed on the cab’s overhead sign and on the licensing paperwork.

Currently there are about 13,500 medallion cabs in NYC. This number is closely regulated by the city government, and most “new” cabs are the result of a medallion being bought and sold on the private market. That is to say, the city rarely creates new ones. This regulation helps to keep the supply of cabs down, and the cab companies in business.

But that’s not all the government does to keep the taxi industry in check. The Taxi and Limousine Commission (TLC) regulates how much a cab can charge per mile or per minute, determines a cab company's leasing fees for drivers, monitors routes taken by the drivers (to ensure they are not artificially inflating the price), and much more. In essence, a cab company (or a cab driver) can only make as much money as the government allows them to make.

But it takes money to make money when you own a cab in New York City.

The Going Rate for a NYC Taxi Cab Medallion

Much like any other commodity, medallions fluctuate in price almost daily. So to put a price on them is really just saying, “This is how much they were recently sold for.” As of March, 2015, medallions were running $900,000. And they had to be bought in pairs.

Most people have heard of the on-demand car company Uber Technologies Inc. It’s new, it’s innovative, it’s often easier to use than a cab, and by some accounts it seems to be killing the cab industry in NYC (see also: Is Uber The Future Of The Taxi Industry?). It won’t, and can’t, but that’s a topic for another time. But Uber is putting a dent in the value of medallions. Just a year earlier, in April 2014, those medallions were running $1.3 million each.

Why Do Medallions Cost So Much?

If you want to get into the cab industry in NYC, you have to pony up around a million dollars just for the rights to operate the vehicle. That doesn’t include any of your operational costs either. So why would anyone buy a medallion? It seems like a waste of money on the surface. But if we dig down we can see that there are some very good reasons.

The primary reason that the medallions cost a lot is simply the scarcity of them. People want them, they are hard to come by, and people are willing to pay that much for them. Just like a rare piece of artwork, a precious jewel, or an ounce of gold: what people are willing to pay dictates the majority of the price. But there is an additional underlying reason. And that reason is low interest rates.

If we look at the value of a medallion just 10 years ago, we can see they were selling for just under $400,000. When the economy went south in 2007, the price of a medallion bucked the trend and starting increasing rapidly. By 2010, the value of one had doubled. By 2013, the value had tripled from the 2005 price. The biggest reason: dropping interest rates.

Those in the taxi business look at the price of a medallion not as a cost, but as an investment. It’s a very safe investment (as long as you’re a good business owner) with pretty low risk. In order to get that same low risk, you would have to invest in a treasury bond. Current interest rates, for a 30-year bond, are right around 3%. Keep that number in mind, it’s important.

How the Transaction Actually Works

You may be wondering how a cab driver, and cab company, makes money. It does vary based on who owns the vehicle, how they have their business set up, and a variety of factors. But for the most part a cab company owns the vehicle. They lease it to their drivers who in turn get to keep 100% of the fares and tips (some companies charge less for the lease, but retain a portion of the fares). Remember that those fares are set by the TLC, and the amount that a cab company can lease the vehicle to the driver is also set.

Let’s suppose that a driver goes through the appropriate background checking, licensing, and is able to get an NYC cab driver’s license. The driver would then go to the cab company as an independent contractor and lease a vehicle for about $150 per shift (10-12 hours). This lease amount varies depending on the day of the week and whether or not it is a daytime or an overnight shift. During the driver’s shift, he or she collects 100% of the fares and tips. The difference between what they bring in, and what they pay to lease the vehicle, is how much they make in wages (usually about $25,000 - $40,000 per year depending on a variety of factors). Remember, the drivers are considered independent contractors, so all expenses are on them and not the owner of the cab.

The real winner here, of course, is the cab company. If they have their cab leased out every day of the year, they can bring in around $80,000 per year. That’s a substantial sum for one vehicle, but that doesn’t include taxes, insurance, maintenance, and the fact that the vehicles must be replaced every 3 years. Even so, if that diminishes the returns by $25,000 per year, the vehicle is still earning $55,000 each year.

Suppose the cab company bought a medallion for $1 million, they are now making $55,000 per year off that medallion. That’s a 5.5% real return on their investment. Remember the 3% you could get off a 30 year treasury bond? The owner’s of these vehicles and medallions are getting 2.5% more with little additional risk.

The Bottom Line

The risk, however, runs in line with the fact that other companies, like Uber, can destroy the value of that taxi medallion. And while the past decade has been great for those who own the medallions (they have seen exponential growth in the medallion value all while their income stream has remained stable), the future may not be so kind. (See related: Will Uber Replace Airport Taxis?)