Is renting or buying the better option? When does it make cents to rent?
“You’re throwing money away.” “You’ll have nothing to show for it.” If you are renting you’ve probably heard these things at some point or another.
Renting or Buying
We’ve been renting for quite some time now so it feels like the next logical step is buying a house. Our lease is up in a few months and we’ve been crunching numbers to see if it’s better for us to continuing renting or buy a house.
Our number crunching led us to the conclusion that between renting for 5 years or buying a house and living in it for 5 years, it would be more cost effective to rent.
There is more power to save and more wiggle room in the budget for activities when renting. On the flip side, home ownership provides more space and a place that is ours (well, the bank’s).
*The numbers used here are numbers I’ve seen in my area. They may be higher or lower than what you are familiar with. I have included percentages and calculators to encourage you to do the calculations based on your personal experience and location.*
Cost of Renting
Let’s say you are renting an apartment for $1,000/month. Your total housing costs include rent, utilities, repairs, extra costs, and one time costs.
Rent
$1,000/month or $12,000/year. This study shows the average rent increases 1% a year in my state (though in our personal renting experience, we’ve seen an increase of 4% each year). That basically equates to rent going up $10/year. At the end of 5 years, at 1%, rent will be $1050/month. The total rent paid will be $61,200 over 5 years.
Utilities
$75/month for 5 years = $4,500. We’ve found that typically, some utilities may be included in the rent. Our rent includes trash and water.
Check out my video on apartment friendly ways to save $$ on your heating bill:
Repairs
$0
Extra costs
Renter’s insurance, $12/month. Total extra costs: $720
One Time Costs
Security deposit, first month’s rent: $1,000.
Total Renting Cost
$67,420
Cost of Home Ownership
Now let’s look at the cost of buying a house. To keep the numbers equal, let’s say your mortgage is $1,000/month. Your total housing costs include mortgage, utilities, repairs, extra costs, and one time costs.
Mortgage
A mortgage of $1,000/month includes principal + interest ($656), property taxes (1.5% of home assessed value, $169/month ), home owner’s insurance ($67/month), and Private Mortgage Insurance (.5-1%+ of loan, $110/month).
This gets you in a house with a mortgage of $135,000 with zero down. This mortgage is on a 30 year fixed interest rate at 4.1% so the payment stays the same. Cost after 5 years: $60,000.
*The numbers here are general estimates and may not be the same in your state. These were the defaults that came up when I plugged numbers into the Zillow mortgage calculator.
Find your property taxes here, calculate your PMI here, and look for your home insurance costs here. But for the most accurate estimate, talk with a mortgage lender at a bank.*
If we were to stop there and compare only rent ($61,200) vs mortgage ($60,000), a mortgage is cheaper by $1,200. When people say “it’s cheaper to buy than rent” this is the only number they are focusing on. BUT a mortgage is not the only cost associated with owning a house.
Utilities
The increased space of a house is met with increased utility cost. Water or trash removal is no longer included in your mortgage. On our house search, we were quoted an average utility cost of $200/month. Total cost after 5 years = $12,000
Repairs
Your total monthly housing costs include more than just a mortgage. They also include home maintenance (1% of home value put away each year, $112/month). This is for when your water heater unexpectedly goes out or the roof leaks.
These things are pretty expensive so you need to set money aside each month to cover the cost. Total home maintenance over 5 years: $6,720.
Extra Costs
Furniture, updating, cleaning, etc. When you first move in you will probably find yourself running to the store to get items you didn’t know you needed, like shower & curtain rods.
You may want to shampoo the carpets before moving in. Now that you have a yard and a driveway, you will need a lawn mower and possibly a snowblower. Maybe you want to plant a garden or decorate the exterior for Christmas.
- Related: Budget Friendly Fall Essentials
Zillow estimates the average home owner spends $9,000 a year in hidden or unavoidable costs. That number includes property taxes and insurance, which we’ve already included, so by subtracting those and the home maintenance we are already setting aside, the number is more like $3,500/year for costs we haven’t accounted for.
If you were strict and didn’t spend any money on furniture or updating for 5 years, and became a DIY expert, you could probably cut those extra costs to $1,200/year. Total after 5 years: $6,000
One Time Costs
Closing costs (about 4% of purchase price, $5,400) when purchasing. This includes, appraisal, inspections, escrow, and earnest payment. Sometimes you can write in the housing contract that the seller pays for these. The bank told us to put that in our contract and the realtor said that was a long shot. She said it may happen on TV but not so much in our current housing market.
Calculator here. Total cost: $5,400.
Total Home Owning Cost
This brings the five year cost of owning a house to $90,120.
But, all is not lost. When you are paying on your house, you are building equity. This is how much of your monthly payment that is going to the principal. Let’s look at the amortization schedule.
Of the total $1,000 monthly payment, $189 goes to the principal, meaning it is actually paying down the loan while $467 goes to interest. This changes the longer you pay down the loan. It isn’t until 160 months of payments (or 13 years) when more of your monthly payment goes to principal than to interest.
After 60 months, or 5 years, you will have paid roughly $27,000 in interest and will have about $13,000 in equity.
Renting or Buying?
Now we need to compare renting and buying a home. After 5 years of renting, you will have spent $67,420 in housing costs. You may get your security deposit back of $1,000, but it’s not guaranteed.
5 years of home ownership will cost you $90,120 but you will have $13,000 in equity. Equity is not guaranteed. The home value could fluctuate and after 5 years you could have more or less than owed. But if we add the $13,000 that has been paid on the principal, that brings down the cost of home ownership to $77,120.
From a strictly financial standpoint, over 5 years it is cheaper to rent by $22,700. That works out to $375/month less. Even if you count the equity built up it’s still cheaper to rent by $9,700 or $160/month.
Other Factors
These are very rough numbers because renting vs buying is an apples to oranges comparison. This also assumes that in 5 years, you don’t do any major renovations to your house to increase the value.
But there are so many other factors to consider. Owning a home comes with tax benefits. You may be able to deduct the interest paid on your taxes. Once you reach 20% in loan-to-value (you’ve paid off 20% of the house) PMI falls off.
Houses generally go up in value on their own. So long term, you may reap the benefits of the appreciating housing market.
But when renting, you have $0 in home maintenance costs because when something breaks, you pick up the phone and call the landlord. You could be investing the difference you are saving through home maintenance, repair, reduced utility cost, and earning interest.
This gives you $22,700 or $375 a month for 5 years to invest and let grow.
Historically, home prices increase so they are a good investment.. long term. But, a home is only worth what someone is willing to pay for it. If the market goes down and you don’t have the ability to wait though the low point, you may have to sell at a loss.
On the flip side, if you can sell when there is a demand for your type of house, you could walk away with a handsome profit.
Conclusion
If you are planning on being in a location for 5 years or less, renting is cheaper financially by about $375/month.
Although the financial factor might carry the most weight, there are factors other than money that go into a housing decision.
Despite renting being cheaper short term, people are still opting and striving towards the goal of home ownership for a wide variety of reasons: pride of home ownership, the hope to eventually pay off the house and live payment free, and the ability to do what one wants with the house are among my top reasons for working towards ownership.
- Related: Our Debt Free Journey
But if you are renting, do not be discouraged that you are “throwing money away”. If you are saving and investing that $375/month, you could be working towards a larger down payment that could reduce your overall housing cost.
Which way are you leaning? Are you looking to rent or buy? If you are planning on renting, check out these resources first:
- Things to do Before Living on Your Own
- How to Rent Your First Apartment
- 15 Questions to Ask Before Renting an Apartment
Very informative! Good level of detail. The personal deduction recently changed on taxes, and it’s no longer an advantage for many homeowners to deduct mortgage interest and property taxes. This takes away another advantage of buying.
These numbers are SO LOW! I live near Vancouver so buying a detatched house is $900 000 or well over a million! Even with $150 000 down payment ( and really, who has this?! ) The mortgage payment is $ 4000/ month! Something to add is that: when you sell a home at high market for the profit, you still have to buy-back into the same high market which means your profit is still very low, or you are upgrading to still have a mortgage. For those who were already in the housing market, they’re secure. Breaking into it as a new home owner is impossible without help.
What a lot of good research! It’s a good reminder to work out decisions as much as possible from a practical base, and use actual figures to do it! Too many times we tend to let emotion or culture or other factors drive us.
I think working it out practically with real numbers helps a lot!
Wow this is very interesting! People do say “you’re throwing money away” when renting. Next time I’ll ask if they’ve actually done research and then guide them to your blog posts. Very informative.
Thanks! And I tried to give buying a house every break but short term, renting still wins financially. But money may not be the only factor to consider!
Having owned a house for about a year and a half, I can honestly say that renting will help with debt free goals so much! Like you said, with renting there are far fewer temptations to buy the “Oh! That would be so cute in my…” pieces, not to mention plants, gas for the lawn mower, adding a dog, or two, because a landlord can’t tell you no ?
Yes! I didn’t even take into account gas for the lawn mower or doing all the things the landlord would say no to!
I really appreciate all that you wrote here. Last year, we struggled to sell a home that we owned for 11 years. The market had crashed a year after we bought the house, so we sold it for a lot less than what we paid for it. Add that to all the home improvements and maintenance and it would have been MUCH better financially for us to have rented for the past 11 years. Still, when we moved to a new country, I struggled with the idea of renting. I wanted to feel like I owned my home. . .but after two unsuccessful tries, we gave up. We are now actually renting a historic home that feels like a dream to live in, but would be intimidating to own as it is so very old. Cheers to renting!
I can see how that could be dismaying! I think we tend to view home ownership as a ‘right’ and anything else is a sign that you haven’t ‘made it’ yet – I know I’ve though along those lines. But I would like to challenge that, especially for the short term. So glad you were able to find your dream home with a maintenance free lifestyle 🙂 Cheers!
Brilliant! Who knew renting for a while will save you money!
Yeah, I had no idea, not until I really sat down and went through the numbers!
Wow, what a thorough post! It does seem tough to give an even comparison between the two like you said, but I definitely believe that renting is a good option based on what your goals are!
Yeah for short term goals it’s great! But if you’re planning on renting for 10-15 years, it would probably make more sense to buy a house, especially if you are planning on being there for a while! Thanks for the comment 🙂