I hear so many people talk about feeling pressure to buy a home because they want to stop "wasting" money on rent. That's too bad, because home ownership isn't always the right answer. In defense of renting.
All my friends who bought homes before their 30th birthday loved to proclaim that they were no longer "throwing money away" by paying rent. Although I am now a homeowner, when I was a renter I never felt that renting was wasting money. I traded my rent check for a place to live. Today, I trade mortgage payment (plus lots of extra money I have to spend on upkeep), for a place to live.
A house is not an investment
It's true: some make millions investing in real estate. Some homeowners have even been lucky enough to retire solely on the resale value of their home 30 years after they purchased it. For most, however, reality is very different. You should not think of your primary residence as an investment.
Yes, a well-maintained home in a desirable location should appreciate over the long-run. But according to this report, the actual rate of return on the US real estate (when considering inflation, taxes, and mortgage interest rates) from 1975-2009 was actually below zero:
Assuming an annual depreciation rate of 2.5 percent, a property tax rate of 1.5 percent, a mortgage interest rate of 7 percent, and a marginal income tax rate of 25 percent for a typical taxpayer, the adjusted real rate of return on housing actually falls below zero (0.575 percent, to be exact).
The stock market, on the other hand, averaged 3.375 percent annual returns for this period, after taxes and inflation.
Faced with those numbers, why would anybody invest in a home rather than the stock market?
Houses are, in fact, money pits
Next up is the undeniable fact that homes are costly to maintain. House require periodic painting, landscaping, roofing, HVAC maintenance and a host of other things. They're also full of expensive appliances that break at the most inconvenient times.
Why do you think your landlord is so slow to return your call about the leaky sink? She wants to get as many years out of that stink as possible. Of course, she probably has a brand new sink in her own home (as would you, if you owned your pad). When we own our homes, we make repairs and renovations based on emotions, not resale value, making owning a home far more expensive than renting.
You can't control taxes -- or your neighbors
When you buy a home, you make a long-term commitment to your neighborhood, for better or worse. If you live a city or town with a great economy and school system, chances are your home value will increase (but so will your property taxes). And if your salary isn't soaring as high as those of new people flocking to your town, you may find yourself unable to afford to stay there. I've seen this happen to both my parents and my in-laws, and it's not pretty.
On the flip side, if your neighborhood deteriorates, you're the one not just living there, but owning property. If you rent, you can move at the end of the lease and let your landlord figure out how to deal with the depreciating property.
The only real argument for home ownership
As long as your property doesn't depreciate, you will build equity in your home over time. With each mortgage payment, you're "saving" a few hundred dollars or more in your home equity that, someday, you could liquidate in a sale or refinancing event.
All else being equal, if you could live in the identical home for $1,000 monthly rent or a $1,000 mortgage payment (of which an average of $600 each month goes toward principal), owning the home seems to make financial sense because you're holding onto $600 a month before factoring in maintenance and other costs. That's definitely a good things, but I don't think it's enough of a benefit to entice people to become homeowners prematurely.
There are simply too many other factors to consider, but I think the two biggest are:
- If you don't live in your house long enough, much or all of your equity will be erased by realtor commissions and closing costs on a new home
- Home equity isn't liquid. If you need cash, you'll be forced to sell your home or refinance (taking on debt and paying more interest).
Yes, paying a mortgage and building home equity helps you build wealth. But it only works if you stay in one house a very long time and you don't borrow against it.
Why renting is awesome
The financial benefits to home ownership are often overstated. But renting has two big non-financial benefits that you shouldn't overlook.
Most importantly, renting gives you flexibility. Most rental leases are only a year long. If you aren't ready to commit to living in one place for five years or longer, renting lets you stay as long (or as briefly) as you want. Unless you know how to fix up an ugly house on the cheap or you get very lucky, it's difficult to flip a house in two years or less and break even.
Also worth restating is the freedom renting gives you from monotonous and expensive maintenance. When I first bought our house, I couldn't wait to buy a lawnmower and mow my new lawn. A few years later, I pay someone to mow it and, if they call in sick, I get annoyed I have to spend two hours of my weekend pacing back and forth around the yard. And since we purchase our home, we've had to spend thousands on plumbing leaks, basement flooding, worn out appliances, and other expenses. I love our home, but it's not been without headaches. When I rented, I took the fact I didn't have to worry about maintenance for granted. But, make no mistake, it's a big benefit to being a renter.
Finally, you can make renting work to your advantage financially, too. If you live in a market where you can rent an apartment for substantially less per month than you could own a home, you can invest the difference. The difference doesn't have to be huge. For example, let's say you rent for $1,000 but would have to pay a $1,300 mortgage payment on a comparable home. That'd $3,600 each year that you can save or invest. And, unlike home equity, those savings are liquid. You can use them to build an emergency fund, pay down student loan debt, or fund a retirement account. None of which you can do with home equity.
The bottom line
Want my simple, no-nonsense financial advice on housing? Consider your monthly housing expenses (whether rent or mortgage) to be your payments for a place to live. Spend accordingly, and save or invest the difference. If you want the pride (and responsibility) of home ownership, by all means buy a home -- you might even make money on it. But don't count on your home as an investment.
And if you rent, your rent checks are not wasted money! Please, don't beat yourself up for "throwing money away." It's awfully nice to have a place to call home at the end of a long day.
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