Another Look At Renting To Get Richer: The Inflation Factor

A couple days ago, I wrote about the philosophy that one could rent and become richer over time. In that piece, I used a very simple description comparing the two:

Let’s say, hypothetically, that you have a home that is eating $1,200 a month in payments, $500 a year in insurance, $1,000 a year in extra utilities, and $3,000 a year in taxes versus a rental situation that costs $800 a month to rent and $100 a year in insurance. The home will cost $767 more per month for the life of the mortgage, but the day that the mortgage is paid off, you own an asset worth $200,000 or so and suddenly have $433 a month more to invest than the renter.

Now, this scenario can bring on a lot of arguments about which is better, but it’s leaving out one factor: inflation. The cost of the insurance, the utilities, the taxes, and the rent will go up at the same rate as inflation, but the actual payments on the house will not. So, in the first year, it is correct that the home will cost $767 more a month than the apartment. Let’s keep going with this – given 4% interest, what will be the difference between the two at various points?

At the five year mark, the difference is $693.06 in favor of the renter.
At the ten year mark, the difference is $583.23 in favor of the renter.
At the fifteen year mark, the difference is $449.61 in favor of the renter.
At the twenty year mark, the difference is $287.03 in favor of the renter.
At the twenty five year mark, the difference is $89.23 in favor of the renter.
At the thirty year mark, the last year of mortgage, the difference is $151.42 in favor of the homeowner.
After the mortgage is done, in year thirty one the difference is $1,405.47 in favor of the homeowner, and in each subsequent year that gap grows by about 3%.

So, the only possible way for the renter to get ahead here is to really hit a grand slam with those investments in the early years. Each year that passes, the monthly advantage over the homeowner dwindles, and in some cases (like this one), the late years of the mortgage can actually see the homeowner paying less for housing, including their mortgage, than the renter. Obviously, when the house is paid off, the homeowner is way ahead.

So when is it preferrable to rent? If the monthly home payments are three times your rental payment or more, then you’re better off renting, but if they get closer than that, you’re likely much better off buying.

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  1. Amber Yount says:

    Hhmmm some really good figures to think about!

  2. G Pendergast says:

    This assumes neither inflation or rent increases.
    Houses make a great inflation dam in most areas.
    Also capital gains on a house sale after 2 years are not taxed at the federal level

  3. PJA says:

    Many renters have invest the difference. In the above example lets assume the renter is able to stick $300 bucks a month in an S&P 500 fund (return of 9.6%). At the end of 30 years they end up with $628,207. They in turn stick this in a balanced fund and withdraw 4% of it a year ($25,128). That’s $2094 in for the rentor – so they are still $600 ahead and have no risk of repairs on an old house, had no debt *and* had all the cash around for emergencies for all those years.

    The rent controlled renters (take a look at Anne Schieber) do even better of course.

    But a house isn’t an investment and it isn’t the cheapest option – it’s place you live where you can stay as long as you pay (landlords can kick you out) adjust the house to your needs (paint, handicap rails) and call home. The person with the most at the end of the game doesn’t win.

  4. Lucas says:

    Of course, this also assumes that you want to stay in one place for 30 years. I haven’t looked at the numbers, but I imagine that the added costs of making a move or two during this time would eat up a lot of the projected long-term advantage of buying over renting.

    So if you’re pretty sure you want to be in one place for the rest of your life, it seems that home ownership is the way to go. If you think you’ll be moving, even once a decade, then a closer examination might be required.

  5. !wanda says:

    What are the initial costs of buying a house, in a percentage of the house’s price?

  6. Gene says:

    Trent,

    Love the site.

    Another consideration is the tax benefit of being able to deduct mortgage interest and property taxes. That would narrow or even eliminate the gap.

    Gene

  7. Rick Cecil says:

    This also doesn’t account for additional costs of home ownership, including

    * As a home owner, you are responsible for repairs from the small items (toilet repair) to the larger items (roof replacement, paint)

    * This also assumes that you never remodel

    * You’re responsible for all the home appliances, stove, refrigerator, etc.

    * Houses also tend to be larger, requiring more furniture to fill–which is yet another cost.

    * Many subdivisions have HOA costs, which can be $200 or more pretty easily.

    * Lastly, if you live in a nice neighborhood, there’s the Jones factor–you’ll want to have nicer cars, etc.

    And none of this even touches on the time required to invest in the home. I don’t mow my grass and if something breaks I call the landlord to get it fixed. Not only would there be the time to take care of these tasks, but also the time and headache to make sure the contractor does it right as well as any follow up if they don’t do it right.

    As a former home owner, I’m glad to be renting again. I will probably own a home again, but am much more aware that the actual cost of home ownership is much more than anyone really tells you.

  8. Tyler says:

    Don’t forget that owning a home can give you a return called appreciation anywhere from 1%-10%, depending on the area, each year. This will narrow the gap as well. Also, what about the cost of renter’s insurance? I’d assume anyone renting that long would have renter’s ins.

  9. Sylvain says:

    What you fail to mention here is that the renter has 1 million dollars after 30 years of investing the saved money each month. From there, the buyer NEVER catches up, the gap only increases.

    And I have the Excel spreadsheet to prove it, based on your figures: http://www.simplegamereviews.com/misc/renting_vs_buying.xls (hope the formulas get translated from my french version of Excel to the US version).

  10. Amy says:

    I ran your numbers, assuming an 11% return for the invested money (aggressive, but you use this for return on an index fund all the time), and with the renter starting with 10,000 in savings (a hypothetical down payment). I also assumed that as soon as renting became more expensive than buying the homeowner started to invest the difference, just as the renter had been saving the difference in the meantime, and that the renter stopped saving. Factoring in the rise in the value of the house, also at the rate of inflation, and calculating over an eighty year timespan, the renter’s net worth absolutely blew away that of the homeowner, by literally tens of millions of dollars (witness the power of compound interest).

    In fact, by my calculations, if the renter had only saved that 10k down payment and the savings from that first year of payments he would still have come out comfortably ahead of the homeowner in total net worth.

    Discipline question aside, the only way you can present a reasonable argument against renting is if you want to argue that:

    1)Inflation will be significantly higher over the course of the 21st century than that 20th
    2)Housing stock will appreciate at a significantly higher rate over the course of the 21st century than the 20th.
    3)The stock market will provide a return on investment at a significantly lower rate over the course of the 21st century than the 20th.

  11. You left out a few of the homeowners expenses. Some are minor (water, sewer, garbage), but you also left out maintenance, which can be significant.

    Over the life of a 30-year mortgage, the owner is likely to have to replace the roof twice, as well as the refrigerator, stove, dishwasher, hot water heater, air conditioner, and furnace, plus very possibly the widows. And that’s before we even get to things like pest control, new carpets, painting, garage doors….

  12. Mark A says:

    What about family? This looks like a good deal until you look at what having three teenagers in a small apartment will do.

  13. wayne says:

    Argue with Trents numbers if you want to, but the guys whole schtick is frugality and cutting costs. So if it were more advantageous to rent than buy, wouldn’t he just say (and do) that? I imagine most of you arguing with his approach are under 30, as that is the most arrogant age group in the history of the world. And as such, you confuse your opinions and what you want to believe with actual facts.

  14. MossySF says:

    You don’t need a grandslam — just disciplined investing. Of course, the major problem is the disciplined investing part. Most people can’t even stay out of credit card debt much less save money — give them more money and they’ll just spend it.

    How many people are willing to eat ramen to get into a house? Plenty. How many people are willing to eat ramen to fund early retirement? None. So for the majority of people, a big mortgage payment that forces gives them CD-like returns is the best option. Whether they come out ahead or behind some other possible scenario is pointless because they won’t have the discipline to follow any such plan.

    There’s a small, small minority where renting would be a better deal. You live in SF or NYC or Seattle or similar places with crazy own:rent ratios (2X-3X) and you can dilligently invest the difference.

  15. jay s says:

    Anon – i would like to see your numbers – they don’t seem to square. If the break even amount for cash outlays is something like 5-7 years, i find it hard that the difference is that great.

    While the maintenance was left out of the first, so was the interest deduction. I get at least 3k a year out of this.

  16. !wanda says:

    All these analyses assume that you would rent the same amount of space as you would buy. However, you can rent significantly smaller spaces, like a room in an apartment, but you can’t buy anything that small. Smaller spaces also means lower living costs and less stuff to buy to fill the space. Before you say that no one who can afford to buy a house would live in such a tiny space, my roommate, who shares a 4-bedroom with 3 other people, is a millionaire since he sold his company a few years ago, and he still is quite happy to live with us. His portfolio is thanking him for that decision.

  17. Brian says:

    Trent, isn’t the whole point of many of your posts to save money early and let it snowball? Why have you conveniently left this out of the equation? If buying costs $767 more the first year ($9200 for the year) in your example, wouldn’t you rather save that $9200 now and let it compound over that 30 years?

    difference monthly 10% return
    year 1 -9200.00 -766.67 -9200.00
    year 2 -8992.00 -749.33 -19112.00
    year 3 -8775.68 -731.31 -29798.88
    year 4 -8550.71 -712.56 -41329.48
    year 5 -8316.74 -693.06 -53779.16
    year 6 -8073.40 -672.78 -67230.48
    year 7 -7820.34 -651.70 -81773.87
    year 8 -7557.15 -629.76 -97508.41
    year 9 -7283.44 -606.95 -114542.69
    year 10 -6998.78 -583.23 -132995.74
    year 11 -6702.73 -558.56 -152998.04
    year 12 -6394.84 -532.90 -174692.69
    year 13 -6074.63 -506.22 -198236.59
    year 14 -5741.62 -478.47 -223801.86
    year 15 -5395.28 -449.61 -251577.33
    year 16 -5035.09 -419.59 -281770.16
    year 17 -4660.50 -388.37 -314607.67
    year 18 -4270.92 -355.91 -350339.36
    year 19 -3865.75 -322.15 -389239.05
    year 20 -3444.38 -287.03 -431607.34
    year 21 -3006.16 -250.51 -477774.23
    year 22 -2550.41 -212.53 -528102.06
    year 23 -2076.42 -173.04 -582988.69
    year 24 -1583.48 -131.96 -642871.03
    year 25 -1070.82 -89.23 -708228.96
    year 26 -537.65 -44.80 -779589.50
    year 27 16.84 1.40 -857531.61
    year 28 593.52 49.46 -942691.25
    year 29 1193.26 99.44 -1035767.12
    year 30 1816.99 151.42 -1137526.85

    by the end of the 30 years, you have an asset worth about 200k, but you lost out on over $1M that you could have had if you let your money compound while renting..

  18. Jamie says:

    Assuming 4% inflation (and thus increases for rent, insurance, utilities, and taxes), $0 downpayment, and an annual gain in home value of 4%, the break-even point between the two situations is 7 years.

    At that point, the renter will have paid $76,869, and the homeowner $136,461. However, the homeowner will have $61,410 in equity in the home, and thus have a net loss of $75,051.

    At the end of the 30 years, the renter will have paid $545,837, and the homeowner will have paid $685,223. However, the home will then be worth $648,680, leaving the homeowner with a loss of $36,544. After another four years without payments on the mortgage, the equity in the home will negate the net loss.

    However, if the renter took the difference between the monthly costs ($767 a month for the first year, $749 the second, etc.) and invested it at 7% annual interest, the renter’s investment surpasses his expense at 6 1/2 years. After 26 years, when the monthly expenses are the same, the homeowner has $460k in equity, vs the renter’s $495k investment. After 30 years, the homeowner’s net $36k loss compares poorly to the renter’s $105k gain.

    The homeowner, no longer needing to pay additional amounts on their mortgage, can then invest it. At the same terms as the renter (who is no longer investing due to paying more monthly than the homeowner), the Homeowner sill still be unable to catch up. By the time the homeowner has $10M in assets, the renter is almost at $19M.

  19. Amy says:

    Here’s the best way I can explain the numbers I use. When the renter stops saving money over the purchaser, he has about $1.7 million saved, total, that’s also been compounding for 27 years. If he leaves that alone for the next fifty years, he’s got nearly $300 million socked away.

    Our owner, meanwhile, invests every penny starting in year 27 that he saves over the costs of the renter (including the absence of a housing payment) for the next fifty years. At the end of that time, earning the same return on his investment, plus appreciation on his house, he has about $52 million saved.

    The reason for the huge difference is pretty obvious – the renter is saving money up front, where the power of compound interest can work for him, while the owner is saving his money later in life. Even though he contributes more, the interest has less time to compound in his favor.

    What seems pretty obvious to me is not that you should never buy a house. There are sound lifestyle reasons in favor of buying rather than renting. Rather, the smartest financial move is to invest aggressively for retirement in one’s twenties and early thirties, and buy a house only later on, when one actually needs the space, because those few early years of savings have a huge impact forty or fifty years down the road…much more than the extra savings one can afford after the house has been paid off.

  20. Amy says:

    And Wayne, I’m not arguing with Trent’s numbers, I’m just taking them to their logical conclusion.

    I presume Trent is defending homeownership because of the discipline factor that’s been mentioned before. Perhaps he believes that it’s better not to champion renting and saving, even though it leads to a much higher net worth, because he worries that people will take that as a license to rent but not save, which is obviously the worst option.

    If you think I’m wrong, please offer a different set of starting assumptions, show that they lead to a better outcome for the homeowner, and explain why you think they’re more realistic.

  21. Ian says:

    @Wayne: What if he’s wrong? Claiming that buying a house must be a better financial move (in spite of good numbers showing that the opposite might be true) based on the authority of the blog author is a pretty weak argument.

    Surely, Trent is not infallible. He does a really good job of quantitative analysis most of the time. But I think that this is one of those times that he’s incorrect because he didn’t fully analyze all the costs. It’s not that hard to figure this stuff out. I did it with about an hour and a spreadsheet. Even making some pretty homeowner-favorable estimations (house rising slightly faster than inflation, full deduction in a fairly high tax bracket, etc.), I came out with renting being the better plan by a significant amount.

    @Trent: Did your calculator break halfway through this post? After providing good numbers for half the argument, you totally ignored the bottom line with “the only possible way for the renter to get ahead here is to really hit a grand slam with those investments in the early years”

    How much of a grand slam? Well, Amy’s numbers suggest that you don’t even have to beat the market to hit that grand slam. Care to revise?

  22. Grant says:

    There are two major factors not considered here:
    1) Most mortgage payments are mostly interest, which is tax-deductible.
    2) Real estate appreciates in value in the long run.

    Here’s a real-life scenario that illustrates why buying is better than renting. In 1999, I bought a house while a coworker (similar income, etc.) said “why would you want to do yard work?” and he continued to rent at $1,000 per month for a one bedroom apartment. My mortgage payment was probably somewhat higher (but tax deductible) for a 3 bedroom townhouse.

    In 5 years, he spent about $60k on rent and I spent more than $60k on mortgage payments and maintenance, etc. However, my house went up in value something like $150,000. So I had quite a bit of equity after 5 years of mortgage payments, and he had no assets to show after paying rent for 5 years. I could extend the case study further (my house has gone up even more since then), but my friend eventually bought a house a year or two ago (missing out on the real estate boom).

    Timing may have had a lot to do with my fortunate situation, but most real estate is going to appreciate over time (even in the short term of a few years, unless you overpaid during a bubble, like in 2005). And once you have equity in a house, you can start to do interesting things like refinance to take money out (to pay off a car loan, for example).

  23. ck_dex says:

    Here are a few other things to add to Amy’s list of expenses for homeowners/renters to consider.

    First, the interest rate climate (most economists believe it’s headed up long-term due to global growth) may influence the decision in favor of purchasing to cap some portion of housing expenses.

    Second, if you own be prepared for the strong temptation to indulge in expensive upgrades and remodelings on top of the necessary repairs. If you swear you can live with formica countertops, make sure your spouse isn’t secretly planning on granite.

    If you choose to own and you pay AMT, figure that you may lose deductions for state and local taxes. Possibly your property tax. Ouch, that’s several thousand dollars lost per year.

    I own 3 houses and upkeep is a huge stress and expense, but I agree with PJA that this is a lifestyle decision, not an investment. In my case, the dread of having to live beneath a drummer or dancer pushed me into owning in each location where I spend some part of my work time.

  24. Bob T says:

    I really appreciate all the discussion on this topic. If all goes according to plan, I will be debt-free next spring for the first time in 20 years. Buying a home is not an option for me right now, but in a year or two I have a decision to make.

    It’s nice to have all the facts from both sides of the fence.

  25. Kimberly says:

    The reason renting + investing comes out ahead in these calculations is due to compound interest.

    Have you ever seen those scenarios where there are two investers, and one gets a head start on investing? They are often used to illustrate the importance of saving and investing ASAP. Person A is 25 and invests $100 a month until they turn 30 (5 years of payments) and then they stop- leaving the money invested and rolling the interest back in. Person B is 30 and invests $100 a month until they turn 60 (30 years of payments). At age 60, person A’s investment will be worth a lot more, even though they put in less money.

    This is just a model, and like any model has some assumptions based in it. However, it is illustrative of why renting tends to come out ahead in these situations. Even though a fixed mortgage payment will eventually be lower than the cost of renting (due to inflation) the renter, if they invest the difference, comes out ahead due to the extra years of compounding. This is to say nothing of the impact of closing costs, selling commissions, etc. if the home owner wants to move instead of remain in the same house, under the same mortgage. Although a renter generally has some deposits and fees to move, they are significantly lower than those the homeowner experiences.

    Additionally- please keep in mind that the recent increase in home values is most definately -not- the norm. Historically, the value of a home has risen close-to or just above inflation. (Yes, even when you add in the recent run-up in home prices.)

    There are benefits to home ownership, however. And considering the impact of either decision on your life style, I think this is one area where you should consider the non-financial aspects at least as much as the financial ones before making your decision.

  26. margo says:

    I think the only proper way to do this analysis is to assume that the value of what is being compared is the same– as in, if we’re talking about buying a 3-bedroom, 2-bathroom house, we need to compare it with renting a 3-bedroom, 2-bathroom house.

    Sure, in most places, people can rent smaller and cheaper, but that’s “costing” you in terms of lost utility. In most cities, if you want to live in a 1-bedroom apartment, you have the ability to rent or buy; same with houses. So if you want to argue for value in terms of living in a smaller or less expensive space, you can do that all the way down to a studio/efficiency condo.

    So. Let’s say our 3-bedroom rented house has all the same costs as a house I might buy: roofs, appliances, pest control, property taxes, interest on his own mortgage on the property, etc. These costs would be paid by the landlord, but, to make money, he would then pass those costs on to the renter. He would also (in terms of appreciation, tax deductions, or straight mark-up) collect some kind of profit.

    So in my mind, there is no possibility in that scenario, when comparing “apples to apples” in terms of the houses or apartments rented or bought, of the renter coming out ahead. Otherwise, there would be no incentive– no profit– for the landlord.

    Depending on the market, a buyer can expect an appreciation on his house that meets or beats a decent index fund. I have some friends in DC that have “made” a ridiculous amount of money off of their townhouse, purchased just five or six years ago.

  27. Kimberly says:

    @Margo-

    There actually is a good aticle on the Motley Fool website that does the anaylsis you are looking for. They compared two houses (granted, just outside of Seattle- an expensive housing market) that were two streets away from each other. Similar size, same # of bedrooms, etc. By their calculations the renter still came out ahead.

    I don’t have a link, but definately search for it and check it out.

  28. Jeremy says:

    Amy & others,

    You’re arguing to a deaf crowd – the countless anecdotes of people making massive amounts of money in principal appreciation on housing in the last 5-7 years are still strong, even as real prices continue to decline. The argument that ‘buying is always better than renting’ is strong within our people.

    The fact is, we are far away from the long trend price to income level of housing prices (3x median income nationwide), and this is a ratio that has stayed more or less stable, until recently, for over 100 years. Based on such a ratio, housing prices will either have to drop, or income will have to rise (or a more likely combination of both) through inflation and real increases until we get to this level.

    Trent, I like many of your posts, but every time I read about your decision to buy b/c it makes sense financially I cringe – overall you are saving pennies (many of your intelligent ways of saving money) but ignore the dollars that are about to slip out of your fingers.

    Contrary to what most people would like to believe, when you buy your house has an incredibly large influence on your future financial well being. I’ll buy in 4-5 years when prices have gotten a lot closer to their long term trend of (nationally) 3x median price to median income, thank you very much.

  29. ted says:

    My own experience. I bought a house with a conventional 30 year loan in 1994. We didn’t have a sizeable down so we financed most of it, about $94k. We refinanced twice (first another 30yr) and then in 2004 with a 15yr loan. Yes, the first few years renting might’ve been a cheaper check (rent payment vs house payment). We have nearly always paid extra on the principle and we have always seen our house payment get smaller. Here at year 13 that payment is almost half of what it was initially (the 15yr refi had a great rate, among other things).

    Bottom line. We expect to have it paid off within the next three years. We have $240k in equity (about twice the total money we’ve paid against the loan). We could’ve seen $240k from $1000/mo investment at 8% after about 12 years (we’ve always paid $1k/month or less, so I’m being generous), but we still would’ve had to pay rent all those 12 years. We could rent this house out today for about 2-1/4 to 2-1/2 times the house payment.

    I can appreciate that renting might make sense at times, but I’d always have my eyes set on when I could get the home purchase thing cooking.

  30. (Auntie!) Mitch says:

    An example of what Jeremy is saying

    I think that before you even think about analyzing whether to buy or rent, you have to decide how much dwelling is the “right amount” as well as your likelihood of changing cities, family situation, etc. I think that these are major factors. Buying “too much” house, at least, is relatively unlikely to be financially useful, however tempting.

    I believe that Trent himself is in our most arrogant age group (indeed, perhaps that is how he has managed to advise so many people on such short experience), so I really get a chuckle out of Wayne’s comment.

  31. Trent Trent says:

    Brian, your post makes two assumptions. One, that the market is guaranteed to return 10% over a thirty year period (in fact, many periods were less than that – 1972-2002 was around 7%, actually, just off the cuff), and two, that there will be absolutely no increase in the value of the home (if you figure that it just raises at the rate of inflation, that’s 4% a year).

    If you look at a 7% annual return in the market along with a 4% annual growth in the value of the home, Brian, I believe your numbers will look a bit different – slightly in favor of the homeowner, in fact, and that doesn’t include the thousands each month that the homeowner will have free in their budget.

    Also, everyone here is forgetting the biggest risk of all: the investor. That was a big part of the original article. A renter investing all of his housing cost surplus is a risk because there’s no real collateral on this payment – if he doesn’t make the payment and instead buys something else, then it’s no big deal. On the other hand, the homeowner is forced to be disciplined because his home is collateral to the investment.

  32. Tim says:

    your home equity isn’t necessarily appreciating. if the market in your area is flat, then your equity is depreciating according to inflation. if the market is depreciating, then you have that plus inflation.

    the rent versus home ownership is also contingent upon you being able to get a home in the area you are living. if you have to do an hour commute in order to buy a house, you are also talking about extras like gas, car wear and tear etc.

    you can’t count on the home equity once paid off, b/c it doesn’t account for the fact you still need a home if you sell yours. if housing appreciates in your area, can you really afford to sell? there are plenty of people sitting on houses that are worth more than they can afford to sell.

  33. MossySF says:

    Trent, I totally agree that most people can’t save their ways out of a paper bag and owning a house is their best option because they would just blow the extra money anyways. However, there’s no where in this post or your original where you clearly stated this point or made it factor in your calculations. If you had said “due to risk of renters spending their extra money, they only invested half of the $767 savings”, nobody would have argued anything.

    But the problem is you’re talking to a rather huge target of audience. There are some of us who have diligently invested the difference between renting and owning and seen our portfolio grow to rather big amounts due to not buying an overpriced house. So yes, you will get challenges when you make general statements when in your mind, you are thinking about more specific conditions.

    Your off the cuff 1973-2002 numbers are off in some aspects. The S&P500 returned 10.6% during that period. (An even mix of large+small+international would have returned 12.2% but since I don’t have numbers for those classes before 1972, I won’t go into that.) On the otherhand, inflation – using a proxy of T-Bonds @ 85% – also was underestimated at 7.2% as it includes the high inflation years of the 70s-80s. The actual 10.6%-7.2% gap is pretty close to your guess of 7%-4%. How often has gaps this low happened? To find out, I calculated all rolling 30 year periods from 1928-2006 to get a sense of how stocks did compared to inflation (and by inference, real estate). Here’s the count of number of 30 periods based on real return:

    3%-4%: 1
    4%-5%: 9
    5%-6%: 12
    6%-7%: 5
    7%-8%: 5
    8%-9%: 6
    9%-10%: 3
    10%-11%: 9

    The large number of periods in the 10%-11% range is a artifact of data only starting in 1928 which skews the numbers. Buying shares after the huge 1929 crash buys a lot of cheap shares and inflation was at all time low during the Great Depression. If we toss out those numbers, the distribution looks more like so:

    4%-5%: 9
    5%-6%: 12
    6%-8%: 10
    8%-10%: 9

    +6% is the median, +6.5% is the average real return. The absolute worse period for real return is 1973-2002 because that includes 3 ending years of bear markets. However, it’s sandwiched between periods of high outperformance so it looks like just a market anomaly when looked at from a long-term view. Ie, if you’ve been saving up for 30 years, you probably can afford to wait 1-2 more years for a market recovery before drawing down your portfolio.

    1970-1999: 6.7%
    1971-2000: 6.2%
    1972-2001: 5.3%
    1973-2002: 3.4%

  34. Sarah says:

    I agree with Tim– while it may have at one point been a good idea to merely assume that a house bought now will increase in value, it’s not always the case. I know several people who have bought here in the DC area and have already lost a couple thousand on the value of their homes due to the slowing of the market. The value of my dad’s house, while showing definite increase since he bought it in 1990, has decreased from last year. If he bought the house last year, he would have been out about $10,000 in the value of the house.

    The rest of this is admittedly over my head, and at this point in time, I don’t make enough to own anyhow. Woo!

  35. Sarah says:

    I’m amazed to hear people offering their own experience in the greatest real estate bubble of the past hundred years as evidence that buying a house is the best way to go. Do they really not understand that their experience was in no way representative, and that they themselves could not have predicted in advance whether the housing market would soar or plummet? Honestly, folks!

  36. Brian says:

    Trent:
    You’re right, I should have use given the home appreciation in my calculation. However, the 200k home would be worth just over 600k after 30 years @4%. I don’t think it’s really fair of you to take the 20 year period of stock market that coincides perfectly with the end of the internet bubble crash. It seems you are picking and choosing data, to be able to come to the conclusion you are favoring. There are also 20 year periods where housing has returned negative based on when you bought. I would say that in the average 30 year case, renting would come out ahead in your example. We both know that the percentage rates chosen would greatly affect the compounding aspect.

    That is why everyone should do their own calculation based on their specific situation, and now blindly follow champions of either end of the spectrum.

    Thanks.

  37. m360 says:

    Looks like this is quite the heated debate. I don’t think there is a one-size-fits-all answer to the rent/buy question. The real question is what can each individual afford while still living within his/her means.

    There are many things to consider when figuring the cost of owning but I still don’t know why anyone would want to throw money at someone and have nothing to show for it at the end of the month, regardless of how much one might save by renting.

    I honestly wish I had bought a house almost 10 years ago (9.5 to be exact). I figured out that I have spent about $30,256 in rent in 9.5 years. When I factor in the $1028 I’ve lost in security deposits that comes out to $31,284 That’s profound, given the fact that I could have bought a decent house a decade ago for $30 or $40K.

    I could be well on my way to owning a house by now. Yes, the other factors of repairs, insurance, etc. etc. must be considered, but that’s just what I’ve handed over to jerks that let me freeze in the winter, live with leaky roofs, and a heap of other things. They didn’t care about fixing things, they just want the $$.

    Considering that a decent house for $40K is now worth $100,000 or more, that’s an insane return on your profit. Tell me where I can invest $ that has more than double return in about 10 yrs?

  38. Sarah says:

    “Tell me where I can invest $ that has more than double return in about 10 yrs?”

    Do you seriously, honestly not understand that what happened in the past ten years was a fluke? That the return on residential real estate over the long run actually usually runs closer to just inflation? That you could just as easily have bought in near the top and made nothing?

    There are many good reasons to buy a house if you are so inclined. But saying buying a house is a great way to double your money is like saying that because you once bought an old piano and it happened to have a Vermeer stuck inside it, the best investment is the purchase of old pianos. It’s nonsense.

  39. MossySF says:

    Huh, you say you spent 30K in rent the past 9.5 years. And that means you could have bought at 30K or 40K house 9.5 years ago? Nope, you are missing the very basic concept of time value of money.

    If you financed the entire 40K house, your payments would have been 489/mo. Then you would have had another 166/mo in property tax/maintenance/insurance/etc. No mortgage interest deduction benefit as this would have been less than standard deduction. Over 9.5 years, you would have paid 72K — more than TWICE your rent!

    Of course, you would not have been able to finance 100% 10 years ago. Housing had just hit bottom after the 1991 mini-bubble and creditors demanded 10% down for new homeowners, 20% down for everybody else.

    The real questions become:
    (1) did you have 15K for down+closing
    (2) could you afford 2X your rent in 1997
    (3) what did you do with the own-rent difference of nearly 32K
    (4) what did you do with the theoretical down+closing

    I know if I had invested 15K in 1997 and then another 3300 a year after that, it would have grown to about 96K now — yes, this is even with the dotbomb period of 2000-2002.

    So back to your original words of “Tell me where I can invest $ that has more than double return in about 10 yrs?” Huh, just about anybody who put money in the stock market in 97 has doubled their market since then. You would have doubled your money if you had approached your housing as $total X if either invested the difference or bought the house. Both would have returned the same results.

    Except the stock market did it with a huge drop in 2000-2002 while real estate had the biggest runup in in the last 150 years.

  40. Bill says:

    The historical real rate of return on residential real estate is only about 1%.

    As MossySF notes, the real return for stocks over the long run (30 year periods) is several times that of residential real estate.

    Home ownership has become essentially another form of forced saving for retirement.

    Unfortunately, the dollar amount realized when you sell a home (often several hundred thousand) tends to distract people from that relatively poor real rate of return.

  41. Roger says:

    Honestly, I don’t believe there is any definitive, purely based on hard numbers way to say that renting is better than buying (or vice versa) that can be applied to all persons, in all situations, in all housing and investment markets. Yes, if you have the financial self-discipline and forward-thinking nature to put the money that you’d save as a renter (down payment and lower monthly costs, for the first few decades) into a secure investment with a decent yield, your final net worth would probably be higher than a homeowner who wasn’t able to keep up. However, those are some big ifs for the average consumer, ones that given the general state of finances in this country, probably can’t be made for many people. Of course, Trent already said as much in his first post on this subject:

    “I think that, overall, renting is a better solution for a person with a strong sense of internal financial discipline that is willing to choose to invest hundreds of dollars each month. However, if you’re likely to dip into that investing money on a regular basis, you are lacking the financial discipline it takes to make renting more cost-effective than home ownership. The author of this article assumes financial discipline from the reader, which is a very big assumption in this day and age when the savings rate is negative and many American households are carrying stupendous debt loads.”

  42. Steve in W MA says:

    I would much rather repair my own house with my own hand and my own tools–something that comes naturally to me–than have to rely on any landlord on the planet. Having the option to make your own repairs is a *benefit* of owning. You can repair things at $0 per hour labor cost instead of paying $80 an hour to laborers/skilled workers by proxy through your rent.

  43. Steve in W MA says:

    Some of the arguments for renting are interesting. I’ll have to consider them. I thought I knew the answer to this before reading the comments but I have to say I’m reconsidering. As usual, each financial option has to be analyzed correctly before you can see which is better from the bare financial point of view.

    In general, it seems that whenever you can minimize your expenses by avoiding interest charges you will come out ahead. Renting an inexpensive place and banking the cash freed up from that is a good example.

    Also, after accumulating enough funds, you can BUY a property in cash, avoiding financing altogether. This is particularly possible in rural areas where you can buy a piece of land for, say, $30K, and, because you are the owner, you can put up an extremely economical structure (for CASH), smaller than most people would want and smaller than a bank would want to finance for marketability/collateral reasons, and then continue to save the difference.

    In many cases, starting out by buying an extremely small and inexpensive home (if there are any where you live) in a less-desirable location is a viable step-up strategy that avoids a lot of interest expense.

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