Buying Vs Renting A House

by Mr. Cheap


As much as I like real estate, I also like saving money, so I always perk up when I come across articles or postings comparing buying vs renting.  The real estate people in the crowd will say that buying real estate has numerous advantages (I’ve discussed many of them in previous posts) and that when you rent “you’re throwing money down the drain”.  It’s quite arguable that keeping a roof over your head is “money down the drain” so lets start there.

I’m currently paying $500 / month for a room in a house (which I share with two other tenants).  This covers all utilities and everything.  This $500 is gone, but it’s purchasing me some of the necessities of life.

Buying vs renting

Say I bought a 1 bedroom condo in Crescent Town (one of the cheaper areas in Toronto, Keifer Sutherland grew up there – it’s pretty depressing these days).  Right off the top condo fees will run me $376, which cover utilities, ground and common area maintenance and whatnot.  This is “money down the drain” just as surely as my rent is.  I’d be paying about $70 / month in property taxes, which pays for things like schools, transit and mayor David Miller’s golf club membership.  This is money down the drain too.  Of my $683.65 monthly mortgage payment (say $110k at 5.69%), $515.51 is going to interest rather then equity (money down the drain again).

If you’re saying to yourself (“well, those condo fees are outrageous”) please keep in mind that apparently for a single family home, you’ll typically spend 2.5% of the house value on maintenance annually.  Plus you’re paying all the utilities and property taxes.

The rent advocates will talk about how you could rent, then invest the difference in the stock market, average a 10% return and be better off.  This is all true for what it is.  If someone tells you after renting for 10 years you have nothing to show for it, you can smile and show them your stock portfolio and say “this is what I have to show for it”.  Or you can show them pictures from your last 10 trips to Hawaii and say this is what you have to show for it.

The big question ultimately is where do you want to live and what are you willing to pay to live there.  If it’s going to drive you nuts having to get the landlord’s permission to paint your bedroom purple, or getting a rent increase every year, you might be better off as a homeowner.  If you like to move every 2 years or want to live in a bare-bones ultra-cheap accommodation, renting might be better for you.

For me I could live where I am for $500 / month, or I could be living in a 1 bedroom in Crescent Town for ~$950 / month (I’d have to pay more than this, but the extra would be going into equity).  Right now the flexibility and low-price makes this preferable (but if my roommates piss me off, I’d quickly switch into condo hunting mode).  It’s not as simple as saying that the condo costs $450 / month more as I’d be getting appreciation from the condo, as well as protection from rent increases (although I’d be exposing myself to increases in the condo fees and the property tax).

Just make sure not to buy into the absolute of one is better then the other, it is highly dependent on who you are and what you want.

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{ 14 comments… read them below or add one }

1 Martin

I agree with the basic calculation but I disagree with Crescent Town as depressing. If you think Condo near Parks, Golf course, Subway and plus 10 minutes away from Beaches and Restaurants is depressing then that’s your opinion. Buildings are old, it’s probably about 30 plus years. It’s great for people who are startup RE investors.

There’s another way to calculate. If you removed the mortgage, it will be a different picture. Instead of Mortgage, you can use Line of Credit instead. The interest will be tax deductable! So you are only paying LOC. That’s why it’s great for Investor intead of a Saver. ;)

2 jesse

One important point in the decision to rent versus buy is recognising and understanding the premium many are willing to pay to own over renting. This “owner’s premium” is nothing but a consumer surplus and does not in and of itself justify paying a higher price to own.

With most other capital goods, such as a cement mixer or car, it costs more to rent than own. Housing — especially apartments — should be treated no different. It may boggle the mind but, in most times in history, while you may be willing to pay a significant premium to own, you don’t have to!

3 Vasile

@Martin: are you in US? Or just talking about Smith Maneuver? I would like to legally have my LOC interest tax deductible :-)

4 Frank Wiginton

Mr Cheap, from a straight month over month comparison renting from a cash flow perspective is bang on! I do strugle with some numbers: 5.69% mortgage rate! Man you are getting ripped off. Our mortgage brokerage is doing 5 yrs at 4.09% right now! BTW $515 in interest must be based on a 25 or 30 year amortization – as you get further along this gets better and better for the principal side. One question WHERE are you getting 10% in the markets these days! maybe now and then but not consistently. BTW – I love how you suggested going to Hawaii rather than investing the extra cash flow!

As a financial planner I am in the home owner camp! You are absolutly correct it is more expensive initially but as you noted you only have yourself to answer to if you want to make any changes. From a purely financial planning perspective the addage of Rent and invest the difference is great – but how many are disciplined to do this? and what do you feel confident investing in?
The other financial planning aspect is the years in retirement. If you have invested in home ownership and paid down/out your mortgage, by the time retirement arrives your housing costs are very nominal (prop tax, maintenance). If you were to rent an equivalent property it may require you to have an additional $30-40,ooo per year in income. If you consider this additional expense for every year of retirement you WILL need a much larger investment portfolio to supply the extra income. Interestingly enough I was on BNN discussing the concept of selling your home in this “real estate bubble” and renting until the market here in Canada tanks and then buying back in. Here is the link to the video on my site: http://frankwiginton.com/media/in-the-news/video

I think everyone needs to make there own decisions about whether to rent or own but they should do it in the context of there overall financial picture and not a short term month to month perspective.
frank@wiginton.ca

5 TinyPotato

Having sold my condo and waiting to purchase another home I am constantly having this rent vs. buy debate as well. For my situation, renting is definitely far cheaper and the proper financial decision for the time being as we’re renting a very small basement suite.

However, giving up the comforts of a larger home is testing our patience and eventually we’ll need a bigger place. It’s also difficult to avoid buying here in Vancouver with all the constant talk of “real estate never goes down”, “you’ll be priced out forever”, “there are planeloads of Chinese coming to buy up everything”. I’m trying to stick to our plan of waiting for prices to be more realistic. It’s definitely a challenge!

6 Potato

@Frank: The post was written 3 years ago, so the mortgage rate might not be current. Nonetheless, when making this kind of decision, it’s important to use an interest rate assumption that will be good for the life of the mortgage, and not just the next few years.

7 larry macdonald

This is a pretty complicated issue. For example, owning a house is not a very diversified way to hold most of one’s net worth. On the other hand, it can be seen as a hedge against 1970s-style inflation.

8 beyondanomie

There isn’t a one-size-fits-all answer to this question.

After doing the relevant financial sums (making some reasonable assumptions to help you do this), the other, more important, issue is one of control. What level of control you are happy with?

Buying a house makes you responsible for upkeep, but you are in control of life there. Renting is lower maintenance and more flexible in some respects, but your living circumstances will always ultimately be at the whim of your landlord in many small ways and in some big ways. To take things to an extreme, if you do not want someone else to be able to decide to sell the home you’re living in, then buying is the only answer.

9 Joseph

I think it’s great that many people in the personal finance realm are talking about the buy vs. rent discussion and not only espousing the virtues of home ownership.

Home ownership is a fairly significant leveraged investment (5% margin). Whereas in most occasions we, as investors wouldn’t even touch an ounce of leverage in a brokerage account.

There is the physical asset itself which has intrinsic value…but how about renting and sitting on a pile of gold bullion. That should also protect you against Zimbabwean inflation.

10 M.M.Bennett

In the rent vs buy debate, its very subjective to a persons situation – so good on you for mentioning that.

If you are single and live in a metropolitan area, renting is probably the best bet for you. And as you mentioned, if you like to move every 1-3 yrs, renting is probably a better choice for yourself. Because like any investment there is volatility – not to mention the amount of money (and lost wages) you pour into searching for and selling a home.

If you are the typical husband&wife, 2 children family and save less than 30% of your income, purchasing a house will more than likely be the largest purchase you’ll make in a lifetime. You’ll end up doling out a ton of money over a 30-40yr amortization, however at the end you have been forced to built up equity, you probably wouldn’t have done so on a manual basis. For most people, an automatic (“I don’t miss it, because I never saw it”) plan or attitude works the best – a house in this case is one of those things. Besides saving, you have added comfort of owning your own place of which you can call your own. Another way to look at it is if you lived on your own, you’d be paying $500/month (this is pretty minimal) per person – so husband and wife combined $1000. In an area outside a city or suburban area, you could afford a mortgage for a similar amount.

Any way you cut it, it definitely is subjective.

11 Jay

Agreed with Ryan, the comparison of sharing a house vs buying isn’t quite fair.

Though I think maybe if you said ‘buying a house and renting out 2 rooms for $1000/month’ and then compared the costs, it would closer to an ‘apples-to-apples’ comparison. What do the numbers look like then? (Buying a house = no condo fees, but probably a larger mortgage.)

I’m guilty of the same thing – occasionally I thought to myself “Man, it was cheaper renting…” but then I realize that I’m comparing a brand new 3-bedroom house to a dingy 1-bedroom (technically no bedroom, since it didn’t have a window, but I used it as a bedroom) basement. Renting a 3 bedroom house would not have saved money!

Still, I ‘hedged’ – I lived in that crappy apartment and lived very frugally until I could afford to buy a house with a 5 year mortgage. Hopefully, the imputed gains of living mortgage/rent free of after-tax money will be worth it. Plus, I calculated total interest expenditure on the house (money down the drain!) and made sure that it’s something I can live with (around $15k).

12 Vasile

@Jay: Now here’s an apples-to-apples comparison. For my house in Toronto, mortgage is $1600, tax $200, insurance $40 and maintainance probably $100 (monthly), for a total of $1940. Compare that with the $1350 rent my neighbors pay for an absolutely identical house.

The only thing I find important for me is that in 25 years or so I will live here “rent free”, paying just for tax, insurance and maintainance. But if you put only 5% down and intend to live there for less than 10 years, you may be better renting, everything else being equal (I didn’t do the math for exactly this case, though). That’s unless you want to gamble on RE value increase, in which case owning makes sense.

Regards,
Vasile

13 dennis

The comparison of owning versus renting a room is absurd. They are two totally different situations. Living on the street is really cheap – why not factor that into the equation?

14 cynical investor

“you can smile and show them your stock portfolio and say “this is what I have to show for it”. ”
unless it will be like the lasdt 10 years so there would not be much to show

“Or you can show them pictures from your last 10 trips to Hawaii and say this is what you have to show for it.”
that’s better

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