I haven’t run the numbers for what food would cost if purchased in a traditional manner, but right now our food budget (for a family of four) is about 20$/month. You couldn’t match the quality of food that we produce in a supermarket.

I cannot look at this argument from a purely financial standpoint. By owning property you have the opportunity to provide a healthier life for you (and your family).

I live in Monterey, California, and rent a 2 bedroom place (1,110 square feet), with a garage for only $1,175 a month. In addition, it includes the garbage, sewer, water, internet, cable, and all landscaping (total value of all of those is around $400 a month).

If I was to buy a similar size house in decent shape with the same commute time, I would be looking at $500,000 at an absolute minimum. Assuming I could put 10% down, my mortgage would still be $2,697 a month before any additional costs were tacked on. Apples to apples, the strict monthly comparison is $1,175 vs. around $3,500 (after other costs plus taxes are added). Even with the tax breaks, it doesn’t come out ahead.

I used to own a house in markets where it made sense. However, around here it does not.

This question taps into some strongly held cultural currents in the U.S., and the truth often has difficulty emerging. This is due in large part to the complexity that surrounds home purchase decisions. By comparison renting is the height of simplicity: it costs you “X” per month. End of analysis.

It can be worth keeping in mind that there are many interested voices in our economy arguing the benefits of ownership, while very few stand to profit from your decision not to buy. The only person I’ve been able to find – in my whole life (36 years) – to argue against me buying a home is my fee-only financial planner, who is paid strictly on an hourly basis for his advice. You’re unlikely to get a fully-informed, balanced view from anyone even remotely connected to the real estate economy, nor from current homeowners, who obviously have their own reasons for believing certain things. Just something to think about, along the way.

There was a feature in the Wall Street Journal lately by David Crook (who wrote the “Complete Real-Estate Investing Guidebook” – recommended) titled “Your Home Isn’t the Investment You Think It Is” – published 3/12/07
Here’s just a small excerpt:

“…houses have become substitute credit cards, as profligate owners borrow their equity to finance everything from cars to vacations. Among thriftier owners, the equity they have built up in the family home has become a vital part of retirement planning — a “fourth leg” of the now-unstable “company pension/personal savings/Social Security” stool that was long the model for a financially secure old age.

“Unfortunately for both groups, however, houses are not very good investments. For the grasshoppers, there’s nothing quite as stupid as paying off your 2002 trip to Orlando in 2032, when you finally settle up your refinanced “cash out” 30-year mortgage. And for the ants, economic studies have demonstrated over and over that houses (1) cost more than most people make when they sell and (2) rarely match the long-term returns of stocks or other investments.

“And that’s doubly true today, with much of the U.S. well into a real-estate recession. It’s unlikely that homeowners in once-booming areas will see a return of skyrocketing prices anytime soon.”

I’ve done a large amount of financial analysis on the rent v. buy question, because I’ve been wanting to buy for over a decade, and am finally just barely in a position to do so. I’ve found that the typical “Buy vs. Rent” calculators are overly simplistic and limited. And since I’ve gone through the pain of getting an MBA, and currently work as an investment analyst (full disclosure: not in real estate), I’ve got some tools to bring to the problem. So I made an elaborate spreadsheet model and asked it: am I better off buying or renting? I defined “better off” in terms of the Net Present Value of my total wealth, and considered various holding periods for the purchased home.

(Re: Net Present Value: Trent points out that most arguments that challenge the benefits of buying rely on the assumption that the extra cash available when renting will be invested somehow. This is true, and must be true if we are going to compare the “wealth effect” of buying to that of renting. We must look at it this way if we are to judge to what degree buying the home is a good investment. The analysis is not comparing how wealthy we’d be if we bought a home vs. how wealthy we’d be if we took a bunch of vacations. That’s a different question, and a much easier one to answer. Our assumption here is that we are trying to determine what choices we can make to give us the greatest total wealth, an assumption that requires us to also assume that if we rent we will make good choices with the extra money. If we find that we are talking ourselves into buying a home because “we’d just waste the extra money anyhow,” then we have a deeper set of issues to address when it comes to our personal financial management practices.)

By assuming that we would invest the extra money that renting might provide each month, and by picking a rate of return that we think is most likely for this money (our “discount rate”), we are focusing on the question: is buying a house a good investment? We can’t answer that question without first answering the question: “…compared to what?” (Answer: the annual rate of return of the next-best use of your money. Other debt you could pay down, which costs X% to carry?; long-run stock market returns of Y%? Other? Your choice.)

The answer to the rent v. buy question is, sorry to say but maybe not a surprise: “it depends.” And it depends on a lot of things, because a complex set of factors come to bear on determining how well we’ll make out on our decision to buy a home.

The starting point is to get clear about what we are comparing the home to, since it’s not an option to go without shelter. Our current apartment may or may not be the relevant point of reference. If we did not end up buying a home, would we stay in this apartment or move across town to the nicer one that’s closer to work? Some of the previous comments address this issue. To compare apples to apples, we’d need to get a pretty good idea of what rent we’d need to pay in order to get an apartment that is equally (approximately) satisfactory to us as the homes we are considering.

Once we’ve established this, we can find the home that is equivalently satisfactory (how ever we define this), and run the numbers on the two choices.

At that point, the analysis becomes dominated by a few critical assumptions that we need to make. Key among these:

What is our relevant discount rate?

What will our interest rate be on the mortgage?

At what rate will the value of the home increase?

For how long are we most likely to hold the house?

At what rate will the Assessor’s office increase the assessment, and therefore the taxes?

At what yearly rate would the rent increase, in the comparative apartment?

What Standard Deduction will we get from the IRS, if we do not buy a home and itemize, and at what rate will the Standard Deduction increase?

What is our Federal Income Tax rate?

How big will the closing costs be?

What will maintenance costs on the home be, and how will they grow, year by year?

When we sell, what percentage will go to transaction costs (sales taxes, realtor fees, sprucing-up costs)?

How much will we pay for insurance?

Will we be paying PMI?

The size of down payment may or may not be an important factor, and Ian gets at this with his last post. The relationship between the mortgage interest rate, the appreciation rate of property, and our relevant discount rate all play a role in determining how good a use of money it is to have a larger down payment. (There are other good reasons to have a large down payment, though… better rates; avoid PMI; a credit cushion, etc.)

What we find when we account for all of these elements together is that most rule-of-thumb type of guidelines are too limited given the variety that exists in personal circumstances and local real estate markets (and as previous contributors have pointed out, the relationship between the local rental market and local purchase market is very important). It’s possible, for instance, to be better off buying even if our current rent is less than the interest portion of our mortgage would be, if property values are rising at an abnormally high clip (for just one example).

If you’ve read this far, I’ll go on to mention that I’ve also given my analytical spreadsheet model the ability to consider owner-occupancy situations for multi-unit properties. Doing so made the math quite a bit more complex, but was very interesting. Although there are plenty of details there that we could talk about, the key “take away” was that just because it can be very good financially to be a landlord does not necessarily mean that it is financially bad to be a renter. The wealth-transfer dynamics are not a zero-sum game. The tax environment for landlords has a lot to do with this.

If anyone out there would like me to run their numbers for them or otherwise talk about these issues, please feel free to contact me.

All the best.
- Jesse
haifley@gmail.com

If this was directed at my first comment, I meant to point out that your three categories are misleading. Rent is cheaper than a mortgage payment for the vast majority of people. In many high population areas, renting is cheaper by a factor of 2 or more.

The claim that renting is generally only cheaper than buying “if you have almost nothing saved for a down payment” (which I quoted in the first comment) is simply false for the majority of people right now. Furthermore, it doesn’t consider the lost opportunity cost of the down payment. Even if I had $200K saved up for a down payment (I actually only have about $30K), I might not get as good a return in a house as I do in other investments.

Now that I’m re-reading my comment, I’m not sure what I’m trying to say either. I think I was just venting my frustrations over my current situation. Sorry about that.

While this applies if you are going to be in the house for the long term things can change dramatically if you are only going to be there short term. If you are going to be in an area for less than two years and don’t intend to turn the place into an investment property you have to add all the associated costs (closing, higher insurance…) and the extra time you will have to spend selling the place. 2k in closing costs spread over two years is and extra 80 a month. Home owners insurance would cost about a hundred dollars a month more than my current renters. That is almost 200 more per month.

I’m going to run through my figures later.

Although there are those that would say that anyone can afford housing: just get your ARM, negative amortization, no money down loan here. And frankly that is the only way many people are buying the houses out there. But I think that jig is just about up.

Also most people I know that own housing are driving an hour and often more to and from work each day. I’m not.

That means that I have to come up with $140K. Assuming that’s not a problem, it looks like my payment (with great credit and that 20% down) would be $3448.02 a month. Interest is around $2916.67 to start and $2766.19 in year 5 according to the amort. charts. It’s hard for me to make an argument for buying in my area.

Typically, I’m right there with buying, but in some markets it just doesn’t seem to add up.

That might be true, if you don’t bother to consider population. To anyone who lives in New York, California, Florida, and any big city along a coast (you know, where 70% of Americans live), the suggestion is laughable.

I notice that the basic assumptions of the article are biased toward home ownership: No mention of property tax, home maintenance, transaction costs, etc. All of that can make a difference that you might not see just by looking at the mortgage payment.

You’re apparently not accounting for those who live in expensive urban and suburban areas where putting together a decent down payment is a challenge. Not to mention the fact that the mortage and property tax payments will likely be higher than what we’re paying in rent.

Oh and I didn’t mention a scenario where you’re trying to rebuild your credit just so you could maybe have the hope of qualifying for a home loan that won’t blow your budget to smithereens.

It’s not always as easy as you make it seem, Trent. I’m sure if I lived in Iowa I might have an easier time getting my act together to buy a home. But my career and family obligations keep me renting in the big city for the time being.