“The ache for home lives in all of us, the safe place where we can go as we are and not be questioned.” -Maya Angelou
Owning a home has been a cornerstone of the American Dream for more than a century. One of the most memorable days in a person’s life is the day they move into their first owned home. Home ownership implies a stability to the family that renting doesn’t.
However, that doesn’t mean that buying a home instead of renting makes sense for everyone all the time.
Owning a home, instead of renting, usually makes sense if owning will be better financially in the long run. Knowing which is better requires calculating all the costs of ownership and estimating how much equity you will build over time. Those numbers have to be compared with what you would pay in rent over that same time period. The differences will help determine whether renting or owning is better for you.
Here’s an example to illustrate how to calculate the financial costs and benefits of renting vs. buying a home. (Figures are representative of suburban Atlanta, where the author lives. Your area may be very different.)
- A family plans to live in one place for seven years, the average time between moves for Americans.
- There is a house they like that they can buy for $250,000, or rent for $1,750 per month.
- Rent increases 3% per year.
- The total rent paid over seven years comes to $160,912.
- Utilities are the same under both scenarios.
- A 30-year mortgage covering principal, interest, taxes and insurance runs $1,500 per month.
- At 3.5% interest, they will reduce the mortgage by $37,388 in seven years.
- The house will appreciate 2% per year, with a value of $287,171 in seven years.
- There are $4,000 of average annual (but fluctuating) maintenance and miscellaneous expenses to the owners.
- Closing costs to purchase are $3,000; closing costs to sell are $14,000.
- Tax reduction for mortgage interest paid totals $11,200 over seven years (20 percent total tax rate).
- Total outlay (excluding down payment) to own for seven years is $171,000.
- Mortgage reduction, tax savings, and price appreciation total $85,759.
If this family rents, their total outlay for seven years is $160,912. While that figure is predictable, they receive nothing at the end of the seven years. If they buy, their total outlay is $171,000, but they recoup $85,759 from loan principal reduction, tax savings, and appreciation for a net cost of $85,241, or 53% of the cost to rent.
While buying over renting seems like a no-brainer in this example, there are other factors to consider, including:
- A $50,000 down payment is needed to avoid the additional expense of private mortgage insurance. (The figures stated above are based on a zero down payment for comparison purposes.)
- Buying assumes they qualify for a mortgage at the lowest rates available.
- They are willing and able to stay in the house for the seven-year period.
- Property taxes and insurance premiums do not increase during this period.
- Maintenance and miscellaneous expenses don’t exceed $28,000 over the seven-year period.
- The house appreciates in value as expected.
- They are willing to perform typical routine maintenance tasks, like mowing the lawn.
We all have to live someplace, and renting or buying are usually our only options. Ownership can offer many benefits, psychological and financial. But ownership can have costs that go beyond money – costs in time, stress, and lost opportunities.
The downside of owning vs. renting is greater with a second home. You might sacrifice a lot of money and time to own a second home at the beach or the mountains. You then feel you have to spend all your spare time there to justify the sacrifice. And when you’re at your getaway, you don’t get away – you spend time maintaining a second home.
When you think about a condo at the beach or a cabin in the mountains, what attracts you? Is it the sights and sounds and peaceful walks at sunset? Or is it seeing your name on the deed and bragging that you own it? Your answer can tell you whether ownership (buying) or mere possession (renting) is really what you want.
Before you commit to buying a home (or anything else), ask yourself why you want to own it. If your reasons to own a home aren’t compelling enough to justify the sacrifice, you may find that renting will make you happier.
Visit a CFP® professional to help you figure out whether renting or owning is best for you.