For decades, homeownership as a path to wealth has been unquestioned conventional wisdom. In addition to appreciating home values, mortgages offer monthly security: Both principal and interest payments are locked in for 15 or 30 years, and aren’t subject to the whims of a landlord or hot rental market.
So it’s easy to understand why we’ve been taught that homeownership is always better than renting. But that’s wrong. In reality, the smarter financial move depends on a list of variables that’s likely a lot longer than you realize.
The old-fashioned argument against renting is that it’s “throwing money away.” After a year of paying $1,000 monthly rent, tenants have nothing to show for it, while landlords have $12,000—or so the thinking goes. But not every dollar spent is an investment for owners, either. You can “throw away” money on insurance, repairs, homeowners association fees—as well as property taxes and mortgage interest, which may not be tax deductible for much longer.
Other, more subtle factors come into play, too. Buyers need a large down payment; renters could take that cash and invest it in something that appreciates faster than a home, like stocks. Keeping that cash also gives renters added flexibility, which is crucial in a dynamic economy. It's easier for a renter to relocate for that great new job; owners can sell, but it’s complicated and closing costs add a large price tag. Advantage, renter.
There are also variable indirect costs to consider. Would an apartment be closer to work, thereby saving you commuting costs? Would a bigger home kitchen encourage you to cook more and save on dining out? And don’t forget this one: Where will you be happiest? Can you rent a nicer place than you can afford to buy?
We can't help with the happiness equation, but there are tools—like this calculator from The New York Times—to help you weigh the more straightforward financial factors.
Let’s say you’re considering a $350,000 condo in a big city with $361 monthly fees, and you’ll stay for five years. You get a 30-year mortgage at 4.03 percent, pay $5,670 in property taxes and $14,000 for closing costs. You'll pay $1,610 for homeowners insurance and 1 percent of the home's value for repairs every year. The housing and rental markets each appreciate 3 percent a year.
In this case, the break-even point is $1,909 in monthly rent—meaning that if you can find a similar place for $1,800, all other things being equal, you should rent. If rent runs $2,000 or more, the sound financial move is to buy. (You can run your own calculations on the calculator.)
Over time, buying becomes the better deal. Stay for 10 years, and the break-even rent is $1,600. The reverse is also true: Sell within three, and the break-even jumps to $2,310.
Home value appreciation is, naturally, another big variable. Say homes increase in value by 5 percent annually, while rents go up 3 percent. The rental break-even from our original calculation drops $1,383, thanks to gains in the value of your home.
Predicting where home values will go is tough. But you can get an idea by looking at the pace at which prices have risen in the area (if they have), how quickly homes sell, how well-developed the area is (less inventory = lower supply vs. demand), the quality of the school district, proximity to parks and other amenities and other factors.
Bottom line? The answer to the old renting vs. buying question is: It depends. That’s why being clear on your personal budget and priorities, and running through some hypothetical calculations before you spend any real money, is often the best way to figure out which route to take.
December 18, 2017