I'll cut straight to the chase today - I'm a firm believer you're better off buying over renting your living space in most circumstances. It's intrinsic that owners make money off of rentals - why would apartment buildings exist unless there was profit to be had? Knowing they are lining someone else's pockets, people still continue to rent! But when is renting a good choice compared to buying a home? I want to help guide your thinking to ensure you factor in all perspectives that go into this important decision. I have no stake in your decision, I simply want to offer my help.
Work the Numbers
As this is a personal finance and career advice blog, I would be wrong to start with something other than the financial implications of renting vs. buying. You'll have to take a leap of financial faith with me that buying a place compared to renting is a better financial decision over time. What, you don't believe me? Fine, I'll run the numbers.
Here is a real-life scenario: I found a nice home in Omaha, NE for rent. It sold last summer for $270,000, and, as of this writing, is available for rent at $1,900/month. Let's pretend, using those numbers, you had the option to buy this house or rent it from the owner. The rent numbers are easy - the listing shows a $1,900 deposit, and $1,900/month rent. I assumed no renter's insurance for this exercise. I also considered utilities a wash renting compared to buying.
Now for the tricky numbers... there are a few assumptions I had to make on home ownership costs, but let me walk you through them as you will have to do the same for yourself. First, let's figure out the mortgage payment. I used a mortgage calculator to figure out the P&I (principal and interest). Principal is the amount you pay on your mortgage that is applied to the money you owe, where interest is the money you pay on top of repaying the loan. As you pay down a mortgage, your monthly payment remains the same, but the principal goes up and the interest goes down. Why? The balance owed is going down, so you owe less in interest. I assumed a down payment of 20% ($54,000). This may actually hurt my argument, but it saves me from factoring in Private Mortgage Insurance (PMI). If you can't get to 20% down payment, you have to pay PMI (usually $100-$200 per month) on top of your P&I. Depending on your loan, you may have an escrow for your homeowner's insurance and taxes. You pay an additional amount to your P&I into escrow, and your mortgage company pays the insurance and taxes for you. It's as if they don't trust you to do that yourself... because they don't! I assumed escrow payment of $665/month based on data in Zillow. Does Omaha pave its roads with gold? Property taxes are out of control! Finally, I factored in $100/month for upkeep above and beyond what you would do as a renter.
With a spreadsheet loaded with all this wonderful data, I crunched the numbers. I assumed five years for the length of time you would rent/own, as that is widely-considered the shortest duration you should consider owning a house. I also assumed the house appreciates in value at a rate of 2% annually, which is a reasonable assumption in normal conditions. If you think that's negligible, over five years, that's about $18,000! Finally, I assumed closing costs of $5,000 when you buy and 8% of sales price when you sell (6% for those wonderful realtors, and 2% to cover any repairs or other closing costs). When making financial decisions over time, I highly recommend net present value (NPV). It's a way to factor time value of money into a decision. Using 7% as the annual rate of return (average stock market, which is high considering this decision is much less risky), I found that buying over renting produces a positive NPV of $1,869. This means that, if presented this choice and using these assumptions, your decision to buy would be like getting $1,869 as nice thank-you for being financially responsible! Of course, you can modify the assumptions and get a different result, but I tried to err on the safe side. But this is just the money side of things. What else should go into your decision to buy a home?
What's Your Life Like?
Renting a place - apartment, condo, home, etc. - can reflect a lifestyle choice. You may be someone who doesn't have time or interest in fixing a broken toilet, mowing a lawn, or shoveling snow. You may be at a point in your life where you don't know what comes next. Career, relationships, etc. can influence your view of settling down in a home, where renting provides much more flexibility. But I would like to challenge some of that thinking. Owning a home certainly means a few more chores, but realistically it's perhaps a hour or two a week above what you would do in an apartment already. You can easily cut out a Sopranos rerun or two and keep your house looking nice! And, while you certainly should hold off if you have known or likely changes coming that would make buying a home impractical, guard against building up excuses for not doing so. While there is some added work and some commitment required, there's the fun side of owning a home. It's yours to do as you please - paint a wall, update a kitchen, or add a hot tub in the backyard!
More to come...
This is the first of a four-part series I'm doing regarding personal finance and home ownership. Next week, I will be writing about the best part - house hunting! Until then, drink your milk, eat your vegetables, and be fiscally responsible!
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