The Pros And Cons Of Renting Vs. Buying A Home

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At some point in their lives, almost everyone will have to make the decision about whether to rent or buy a home. What many people do not know is that which option you should take depends on how much money you have, how long you plan to stay where you are and how fast prices and rents are rising or falling. There are also important pros and cons that must be considered before making a final decision.

The Pros And Cons Of Renting

Pros

  • More Flexibility: You can relocate easily. It’s easier and quicker to break a rental lease, if need be, than to sell a home.
  • More Liquidity: Renters do not have to make a down payment, pay closing and maintenance costs or deal with real estate taxes. This frees up money to spend elsewhere, such as the stock market, which enjoys historical annual returns of about 8 percent. (For more information about investing in the stock market, see Investing In The Stock Market For Beginners.)
  • Fewer Financial Surprises: If the refrigerator breaks down or the roof is leaking or termites are eating the house, it’s not going to cost you a dime. These unexpected surprises won’t affect your bottom line.

Cons

  • No Equity: You’re helping your landlord pay her mortgage, and all you get is a place to live. It’s not a lousy investment. In fact, it’s not an investment at all.
  • Rent Increases: Unless you’re in a rent-controlled apartment, you have no control over how much your rent increases each year. Your landlord can raise your rent as much as she wants. If you don’t like it, you will have to move. And if your credit score is low, you’ll pay higher rents because your landlord sees you as a risky tenant.
  • Less Freedom: Landlords may not allow pets. They may not allow you to paint the walls. They may require you to weed the garden, trim the bushes or do some other job that you don’t want to do.

The Pros And Cons Of Buying

Pros

  • Tax Breaks: One of the best benefits of home ownership is that you get to deduct mortgage interest and property taxes, lowering your taxable income.
  • Capital Gains: Married couples can earn as much as $500,000 tax-free when selling a house at a gain. Singles stand to gain as much as $250,000 tax free.
  • Emotional Satisfaction: Homeowners tend to develop a strong attachment to their homes. They become special places with wonderful memories.

Cons

  • High Costs: Renters don’t have to worry about property taxes, maintenance costs, principal, interest and, in some cases, mortgage insurance.
  • Less Flexibility: If you want or need to move, it’s not as easy as contacting your landlord. You need to rent or sell your house, and that can take a long time and cost a lot of money.
  • Shrinking Values: If the housing market is in the tank, the value of your house can decrease and you can owe more than the house is worth.
  • Larger Time Investment: Homeowners spend more time repairing and improving their houses and have less time to do things they might rather do.

As you can see, there are pros and cons to each of these, and maybe you’re still confused about what you should do. Here are some analyses that might clear up the issue for you:

The Rent Ratio Analysis

The best time to stop renting and buy a house is when it costs less to buy than to rent.

Here is how to figure out when that is:

Find two similar homes – one for sale and one for rent – and divide the asking price by the annual rent. For example, take a home with an asking price of $200,000 and divide it by an apartment with an annual rent of $12,000. You get 16.66. That number is what economists call the rent ratio.

During the 1970s, 1980s and 1990s, the nationwide rent ratio mostly stayed between 10 and 14. However, it rose to nearly 19 in 2006 when the housing market topped out.

Economists say that a rent ratio of 18 or more usually means that it costs considerably more to own than to rent after you factor in the mortgage, taxes, insurance, repairs and other expenses. Ideally, you should buy a house instead of renting when the rent ratio is a lot closer to 10 than to 20.

New York Times Analysis

The New York Times conducted an analysis based on six years of expenses for renters and homeowners. In the analysis, renters paid $15,303 in rent over six years plus $1,212 in renters insurance over six years. The analysis included a decision to return the renter’s $1,100 security deposit but subtract $7,424 in lost “opportunity costs,” notably not being able to write off interest fees and benefit from the home’s increase in equity and value. Homeowners paid a down payment of $34,400 and $6,880 in closing costs and all other costs and tax benefits were factored in. The home was sold six years later.

The conclusion: If you stay in your house for six years, buying makes more sense than renting. Owning will cost you $10,460 less than renting over a six-year period.

Ginnie Mae Analysis

The Government National Mortgage Association (GNMA), or Ginnie Mae, recently conducted a similar analysis that put the advantage at about three years of home ownership.

In Ginnie Mae’s analysis, the renter starts out paying $800 per month, with annual increases of 5 percent. The homeowner buys a house for $110,000 and pays a monthly mortgage of $1,000.

After six years, the homeowner's mortgage payment is lower than the renter's monthly payment, by $21. With the tax savings that homeowners enjoy, the homeowner's total costs are less than the rental payment after only three years.

Figuring out whether to rent or buy is an important decision, and it takes a lot of homework to arrive at a wise decision. What’s best for you might not be best for your next-door neighbor. However, with mortgage rates at historic lows, it makes sense to investigate the costs of buying if you’re a tenant

Sources

Last Updated: January 28, 2012
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About Mark Di Vincenzo Mark Di Vincenzo is a contributing author to CanDoFinance.com. Mark is a journalist with 24 years of experience and a New York Times best-selling author.

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