The decision to rent versus buy is more than just crunching the numbers. You may find a rent vs. buy calculator that is very comprehensive, located at: CalcXML.com
One of our CEBAA exclusive buyer agent for gave us this example of a situation where continuing to rent may be more profitable than buying.
This is an example only and you should always consult with a competent tax or legal advisor for your specific situation.
One neighborhood in Denver, contains home prices that average $300,000. Rentals for a comparable 3 bedroom home are around $1,800 per month. This example will compare this with buying a $300,000 home with an FHA loan that allows you to put only 3% down ($9,000).
Let’s assume you qualify for a 5% rate on your 30-year loan. You think you will likely stay in the home 5 years.
Principal and interest add up to $1,562.00, so you are seeing immediately that this is less than $1,800.
However, you have less than 20% down, so you need private mortgage insurance. Therefore, you must add about $55/month for every $100,000 financed for this insurance. This brings you up to $1,722/month.
Property taxes are next. Property taxes are relatively low in Colorado, and may be determined by seeing the country records. . So you estimate about $200/month for taxes. This brings you up to $1,922/month.
Homeowner’s insurance must be purchased with any mortgage. You shop around and find a replacement policy that costs $100/mo. You realize that this neighborhood has a homeowner’s association, and expects dues of $70/month. Now you are at $2,092/month.
You know that even newer homes require a maintenance budget, so you set aside $200/month for repairs. This puts you at roughly $2,300/month or about $500/month over what you could rent for.
In today’s market, many home owners are not factoring in a lot of appreciation.
So you assume you may be able to sell your house in 5 years for about $325,000, or about 8% over what you bought it for.. However, you realize that the sales and closing costs at that time are likely to run the average of around 8%, (minus $26,000) so you may be able to get $299,000 for your home. You figure that the joys of owning your own place and being the lack of a landlord are worth this possible $1,000 difference, and since you buyer agent got the property at 5% below other homes in the area, you figure you have enough cushion to probably break even.
You realize that if there is depreciation of home values during the next 5 years, as happened in 2008-09 and the early 80’s, you may have to face foreclosure or come to the table with cash to sell the house, but you are an optimist, not a pessimist.
You also keep in mind that if there is significant inflation over the next 5 years, that $31,728 will be worth less in purchasing power than when you purchased the home.
We zoom ahead to year 5. The balance on your loan is $267,222, so if you sold it at the full asking price of $325,000, you may realize a gain of $31,728
You compare this to your net savings if instead you continue renting:
You have taken the $9,000 down payment money and invested it in a CD for 5 years @4%, giving you about $11,000 when the CD matures.
You have taken the $500/month savings on monthly payments times 60 months to equal $30,000. You put your $500 into an investment that is considered save, relatively high return and liquid. Because you think rates are likely to increase, you keep your terms relatively short. If you invest ultra-conservatively, at the end of 5 years you have your $30,000 plus interest of say, around $3,000. Your total is $33,000.
In this scenario, your cash at the end of the rental plan is $33,000 plus $11,000, or $44,000. Your cash at the end of your home sale in 5 years is $31,728.
You are $12,272 ahead by renting.
Now the $13,504 you have paid over the past 5 years in interest IS currently tax deductible. Therefore, IF you are able to fully use this deduction on your tax return, and you are in a 20% bracket, you might save an additional $2,700. If you are in a 35% bracket, you might save an additional $4,726. You are still ahead $7,546 by renting.
You also may be able to deduct some of your $2,400 in property taxes. Let’s assume in this scenario you saved roughly $840 if you are in a 35% bracket.
You are still ahead by renting and have $6,706 more in your pocket than if you had purchased.
The savings are even more dramatic if you do the calculations for million-dollar homes.
Keep in mind the intangible benefits of NOT being tied to a property:
You have the flexibility to pick up & move any time during those 5 years. You have cash on hand to do other things.
This analysis is based on assumptions only you can determine.
Factors that may dramatically change these numbers are assumptions about:
So you have decided to continue renting. However, here’s a critical question you MUST ask youself: Do I have the self-discipline to wisely invest the $500 difference between the mortgage or the rental rate? OR am I more likely to spend that $500/mo. on fun stuff?
If your answer is the later, you may wish to have the forced savings plan that only a mortgage and a place to call your own can give you.