Right now if you are renting, and plan to continue doing so, you may be missing out on the best opportunity of a lifetime. Due to the recent drop in housing prices and record low interest rates it is possible to be paying less for a mortgage than for a rental.
The numbers for renting and buying homes vary considerably nationwide. While a home in parts of Cleveland can be purchased in Cleveland for as little as $50,000, one would be lucky to find a home in most parts of Manhattan for less than $1 million. Even in Harlem which is considered one of the worst neighborhoods in Manhattan, homes have am average current listing price of $800,000. The same huge discrepancies can be found in the rates of rent throughout the country. Since the numbers vary so much nationwide I am going to focus on the area that I live in, the suburbs of New York City.
I examined two scenarios; buying versus renting and the results after 30 years. I must note it is hard to get an exact comparison because no two properties are alike. It is hard to find a property that can either be bought or rented. Therefore I will have to use two different properties with similar characteristics and located in the same area for my article. However it is impossible to get an exact comparison.
The properties I used were both three bedroom townhouses with two full bathrooms both located in Passaic NJ. I used historical data from census.gov to calculate annual average increases in home prices and rents from the years 1940-2000. The average annual increase in home prices was about 6.2% per annum, and the average annual increase in rental rates was about 5.2% per annum. I used the following assumptions for the study:
I assumed (based on my findings) $1500 per month, I assumed a rental insurance of $1047 annually, and annual rent increases of 5.2% per year.
I assumed a $350,000 purchase price (based on my findings), a down payment of 20% and an annual appreciation rate of 6.2%. In addition I assumed a 30 year fixed rate of 5.25% (this translated into $1500 in mortgage payments only slightly more than rental fees). I assumed rental insurance of $1047 annually, and annual property taxes of $3,500 and annual maintenance costs of $3500.
Finally I assumed a tax bracket of 25% and future annual inflation rates of 3%. I also considered the opportunity cost that a renter could invest the $70,000 that the buyer used for the home down payment. I assumed the renter could earn an 8% pretax return on his investment.
I used the data above to calculate whether someone should buy or rent. These are the results I got are listed below courtesy of truila.com
Buying a home would save you approximately $848,011 (in today’s dollars) over 30 years, compared to renting, based on the assumptions you provided.
Cost comparison Rent Buy
Rent and fees $2,101,777
Mortgate payments $555,031
Property insurance + $85,747
Property taxes + $285,822
Maintenance + $105,000
Tax savings (interest/taxes) – $96,499
Home Appreciation – $1,772,099
Total cost = $2,101,777 $678,174
Present value at inflation $1,229,772 $381,762
As clearly shown from the chart it makes a lot more sense for most people to purchase a home, as opposed to renting one. The difference over 30 years is close to a million dollars under the assumptions I used.
This is not a blanket recommendation to buy, and I am concerning my article towards people considering a home to live in and not as an investment. In addition I examined a specific area where current rent rates are close to mortgage rates. In other parts of the country there may be a larger spread between renting versus taking out a mortgage on a home. However, I urge all the readers to go to truila.com to calculate the benefits of renting versus buying in their areas.
There are other factors to consider, even if the area ones lives in, the cost to rent is close to the cost of receiving a mortgage it still might make more sense for someone to rent in certain scenarios. If someone is not sure they want to remain in the area, it is more logical to rent than to purchase a home which requires closing costs, lawyer fees. In addition someone who does not have a steady, secure income should rent and not buy. It is better to be evicted from your apartment than your home which you put a lot of money and time into. Finally, many people simply cannot afford the down payment to purchase a home. The days of zero down mortgages are over (at least for now).
However, I think from a value investor perspective it is prudent at minimum to consider buying a home now. It is possible housing prices and even mortgage rates could go lower. In fact many speculators I have spoken to resist purchasing homes now due to their belief home prices will go lower. As a value investor I know it is impossible to predict short term movements in asset prices such as real estate. Therefore, as a dye wooled value investor I reject these speculators arguments. If I see a good bargain I buy it even if it might be more of a bargain in the future that is what value investing is all about. If I can pay the same price to rent and have thrown away money after 30 years, or buy for the same price, and own my home after 30 years, as a value investor this is a no brainer.