If you are debating the age-old question of whether renting a property or buying a home is in your
best financial interest, you are certainly not alone. It’s an important thing to consider, given that depending on whether you rent or own–and where–could end up saving you a bundle, or costing you much more in the long run. Of course, many factors are entirely dependent on a person-to-person basis. Do you enjoy the freedom of being able to pick up and move to a new city every few years? Are you hunkering down and starting a family soon, looking for a positive community and a good school system? Many aspects of consideration go into this big decision. I’ve compiled five financial factors that I believe are important to address when you are weighing your options. Hopefully these are issues that will greatly aid you in your decision-making process :
1) How Long Will You Stay
Catherine New of Daily Finance recommends looking at your five-year plan. How long are you planning on living in this residence? Is there a potential to move within your five to seven year future? If a move is a possibility, and you’re not entirely sure you will live there for longer than 5-7 years, purchasing a home may actually cost you more in transaction fees, closing payments, and realtors’ fees than any money the investment would have saved you. If you could see yourself living there for five to seven years but aren’t entirely sure you would want to, you can ask yourself how committed you are to that particular neighborhood, city, town, or state. Are you planning on having kids within that time? If so, what is the school district like? These are questions that will help you determine if purchasing that particular home is the right choice for you.
2) Hidden Costs
Vivian Wagner of
Mint.com advises checking into all the hidden costs that can come with purchasing a home. Some of these include maintenance, general upkeep, property taxes, homeowners insurance, renovation costs, landscaping, and utilities. It’s important to decided whether you have enough cash on hand to cover a big expense if something came up, such as needing a new roof or having to replace the furnace. You will have no landlord to fall back on, as you would if you were renting. The responsibility becomes yours solely, so ensuring that you take all the hidden costs into account is important.
3) Rent ratio
The rent ratio is essentially the sale price of a house, divided by the annual cost of renting an equivalent house. For example, if the asking price for a house was $200,000, and it cost $1500 to rent a similar property, the price-to-rent ratio would be 11.1. According to Trulia’s spring rent-vs-buy index, the general rule of thumb is that if the ratio is above 20, renting is the most cost-effective option. If the ratio is below 15, buying is in your favor if you plan to live in the house for a minimum of five years. Trulia states that anywhere between 15 to 20 is dependant on the homebuyer’s tax bracket, and whether or not they plan on itemizing their tax deductions. Trulia listed the top three metros where buying is cheaper than renting as Detroit, MI with a rent ratio of 3.7, Oklahoma City, OK whose rent ratio is 4.3, and Dayton, OH coming in with a 4.8 rent ratio. Those listed in the top three cities where renting is more affordable than buying are Honolulu, HI with a rent ratio of 17.0, San Francisco, CA at 15.5, and New York, NY at a 14.5 rent ratio.
4) Use a Rent Vs. Buy Calculator
The
New York Times has a great one to plug in your monthly rent, price of the house in question, down payment, mortgage rate, and annual property taxes. The calculator takes the common expenses of owning versus renting into account, and also tallies what is known as “lost opportunity costs”: the return on investment that you COULD have earned by investing the cash that you otherwise put into a down payment on a home. The calculator will break down the analysis by year, telling you how many years it would take before buying would outweigh renting, and how much on average you would save.
5) Look at your Income/Monthly Expenses and Credit Score:
Be realistic with what you can afford. Look at your monthly spending versus your income and your savings. Do you have enough upfront for the purchase costs of a house? These include things like the down payment, closing costs, and realtor’s fees. It’s also a good idea to look at your credit report and score well ahead of time, before you plan to buy. A better credit score (above 740) can mean lower interest rates, which is more money in your pocket in the long run. So get cracking on whipping your credit score into shape before you plan on investing in a home.
And one last word: from all the research I’ve done, I’ve found it’s generally better to rent IF your rent is lower than average and you are confident that it won’t rise any time soon, IF you plan on moving a couple years, or IF you can get higher-than-average returns from whatever you’re investing your cash into (that is, the cash you would be spending on a down payment.
