Fri 31 Aug 2007
Buying Vs. Renting: Is Homeownership Better for your Money?
Posted by Matt WolfeFile under Home Ownership
I have been in the market to by a house for quite some time now. My ultimate goal has been to purchase a home before the age of 25 (I’m 24 now). Lately, after spending time reading all the various financial blogs, I’m starting to rethink my goal. I’ve been reading a lot about the benefits of renting over home ownership. I’ve always been told that when renting, “you’re throwing your money away.” People believe this because every month you’re spending money on rent and you will never get that money back. At least with a home you are building equity. I’ve decided I need to take a closer look at the actual benefits of renting over purchasing a home.
Owning is not what it is cracked up to be. There are many ways that you are actually throwing away your money when you buy a home as well. When purchasing a house, you have closing costs that will never be recouped. Closing costs are things like attorney’s fees, application fees, appraisal fees and all the other various fees that you are required to pay to the people that help make the transaction. Along with your mortgage you will have interest payments, property taxes and home owner’s insurance that will never be recouped. In fact, for about the first 5 years about 80% of your monthly mortgage payment is going to go towards interest. It’s not even until about years 17 or 18 that you are even paying 50% towards the principle of the house. Not to mention you will be paying for whatever maintenance needs to be done on the house.
Housing rates had been appreciating rapidly over the past 10 years or so. The market has taken a dip as of lately but the market is cyclical and it will eventually appreciate again. Housing appreciates at a rate of about 6% per year. You are paying more money for a mortgage payment but at the same time you are building equity. You are putting more money in to a mortgage than a rent payment but it will appreciate and you can pull your money out of it a later date. On the other hand, if you were to rent and save money on that mortgage payment, you can put some of the savings in to an index fund that appreciates annually at about 10% per year.
I found a nifty little calculator over at the New York Times website that shows a graph of buying vs. renting. The first graph shows a $350,000 mortgage vs. a $1,200 a month rent payment. It also figures a 5% rate of return on an investment if I was to rent and invest the difference. You can see that at about year 5 the cost of owning a home becomes less than the cost of renting. The second graph has the same rent and mortgage figures plugged in but figures a 10% rate of return on my investments if I was to rent and invest the difference. This is now a much different story. You can see that over the lifetime of the loan, it never becomes more beneficial to own. It comes close but the effects of compounding interest at 10% over 30 years just adds up to way too much money to make the mortgage worthwhile. This calculator does figure for inflation and a 4% annual increase in rent.
There are a couple of factors that these calculators can not figure in. That is the satisfaction gained from owning your own home and the increased standard of living that comes along with being able to do whatever you want to your house. Another large benefit to homeownership is that you have the ability to fix your payment. You know that every year you will make the same monthly payment. This is a huge benefit. From a strictly financial point of view, I am leaning towards the conclusion that, if you are committed to making the right, responsible investments with the saved money, renting is more sound than owning. I know this is not the popular belief and ownership is the American dream but I do believe renting is not such a bad idea after all.
I love hearing feedback from readers and I know this tends to be a pretty controversial subject. If you have strong feelings on this topic and strongly agree or disagree, please explain. I still have a dream to one day own a home but at this time in my life, I’m just not sure that it makes since.
I’ve found some other interesting articles on the subject. Such as “Renting Vs. Buying: The Realities of Home-Ownership” For an article that agrees with my point of view and “Renting Vs. Buying: Which is Better” For an opposing viewpoint.
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September 1st, 2007 at 1:38 am
The problem most people have is that they won’t take the difference between the mortgage payment and a rent payment and invest it. Housing is forced saving much like getting a big tax return back. It’s not necessarily the best way to save, but it is better than if you didn’t do any at all.
September 1st, 2007 at 9:43 am
I agree that it is harder to invest the difference and that investing in a home is a forced savings plan. That is one of the up-sides to to owning. But if you are disciplined with your investing, renting make more financial sense. Thanks a lot for the comment.
September 2nd, 2007 at 11:13 am
I tend to lean towards the home-buying side. I think you actually are throwing your money away when you rent. All you’re doing is putting food on the table for the family you send those checks to. I would need the full satisfaction of knowing that a house is mine. I don’t want limits, and I think a little extra money would make it worth it. Good viewpoints, though.
September 2nd, 2007 at 11:25 am
I can see where people are coming from when they say they want full control over the property and that they want no limits with what they can do with it. But for people who are concerned with growing their wealth, renting may be a better option. That is the main point that I am trying to make. Thanks for the comment.
September 10th, 2007 at 5:02 pm
Owning is a pain in the azz. Renting is a great simplifier of life.
Yes, owners have great control over their property, but renters have greater control and flexibility over where they wish to live, and for how long. Friction makes this kind of flexibility prohibitive for the owner.
Finally, most owners (about 2/3rds of them) aren’t really owners, rather they are long-term renters from a bank or other lender, on a rent-to-own plan.
If you’re going to be an owner, and are as certain as you can be that you have found a good place for yourself (and family), have the ballz to buy it outright. Don’t jack around with lenders who *own you*.
September 12th, 2007 at 1:49 am
I couldn’t understand some parts of this article Vs. Renting: Is Homeownership Better for your Money? | How I Will Be Rich, but I guess I just need to check some more resources regarding this, because it sounds interesting.
September 26th, 2007 at 5:09 pm
You assume that you will always get 10% on your alternative investment in the S&P 500 index. While a 10% year-over-year increase is quite significant over the long run, you can easily run into a stretch where you find yourself with little appreciation, or even a dip in value. I know, because I’ve been-there-done-that. The 10% figure is one that seems to hold true over the long run, but may not be the case during whatever home ownership horizon you envision. Also, you leave out in your analysis the tax benefits of deducting the interest portion of your mortgage payment. If your income is high, the tax savings from your mortgage payment can be significant, and those savings can be invested in some other asset(s).