Better To Rent Your Home Then Buy!
***EDIT***
It is apparent that some people may have missed the point of this article. Yes over a 25 year period it will always be in your best interests to buy. The point of this is article is simply that it may be beneficial to wait one or two years, and increase your savings.
I bet you have never heard that before. Years ago I was at a bank getting a certified cheque for first and last months rent and the teller was trying to convince me to forget renting and buy a home. I quickly said that I had no savings, and that renting made more sense. She insisted that you didn’t need to have any money saved, and that buying a home was a much more intelligent scenario. I ended up renting, but for the last several years I have reviewed the situation to attempt to determine if there are scenarios where renting is better than buying.
The answer? There are!
There are obvious scenarios where it makes more sense to rent. If you are in a transitional role, moving in a year or unsure of your current situation it makes lots of sense to rent. Does it ever make financial sense?
Contrary to what the banks tell you, the answer is still yes. The current down market, sub-prime mortgage, real-estate mess in the U.S. provides an excellent example. In several major American cities the price of houses is falling or, at the very least, flat. As well, the rental rate of a house is in those same down markets is only 2% of the cost of the house. If you were to take those two facts and think from the perspective of a home owner:
Am I better off to rent the house for 2% and continue with the ongoing costs of ownership or would be I better off to sell the house invest the money in a 4.5% GIC and rent the same house?
The answer is dead simple. In that case you would be way better off renting vs. owning it, even if you didn’t have a mortgage.
Yet, there are more complex examples, examples like the current Canadian market which, while easing off the gas pedal, is still solidly moving upward at a rate slightly higher than inflation. Surely in such a market it would always be in your best interests to be paying a mortgage rather than renting? Not always the case.
I will try to break it down in a simple example:
There is a house you want to live in, it costs $195,000 to buy or $950 to rent. You have no money saved.
The rent includes heat ($100/month), hydro($125/month), and water/sewer($25/month) costs. Property taxes are $3000 per year, and the house is appreciating a rate of 2.5% per year, very slightly more than the rate of inflation.
You are a first time home buyer, your costs to buy are:
| House Cost | $195,000 |
| CMHC Insurance | $7,300 |
| Closing Costs | $1,500 |
| Total | $203,800 |
Your monthly payments on a 25 year amortization 5 year fixed rate mortgage would be: $1,254.68.
Your first payment would be $938.50 in interest, and $316.18 in principal.
In order to determine whether or not you are better off renting you need to calculate you rent equivalent. It is all costs associated with owning a house that you would not have to face if you were renting. Here is the rent equivalent break down in this scenario:
| Mortgage Interest | $918.50 |
| Property Taxes | $250 |
| Utilities | $250 |
| House Appreciation | -$406.25 |
| Total | $1012.25 |
In essence you are savings $316.18 and $938.50 is going to rent. Still better than renting right? Maybe not. You also have property taxes to pay. $3000 a year or $250 a month. Your ‘rent’ is now $918.50 + $250 = $1168.50, which appears to be a lot more than renting. At this point you need to factor in the rising value of the house. For argument’s sake, the house is rising by 4% per annum or 0.33% per month. Which is $406.25. That is the same as savings so your rent equivalent is now $762.25. When you factor in the additional $250 for utilities, the rent equivalent amount is $1012.25 or more than your rental amount.
Now of course with each payment your amount of interest decreases, yet by the end of the year your interest amount is still $922.11 which would put your rent equivalent amount is still $986.25. (This does factor in the increased value of the house.) This does factor in the house appreciating in value, but does not factor in the additional maintenance costs that are not factors when renting. So for at least the first year, in this scenario it would be beneficial to rent.
It is not terribly difficult to make this calculation and it will let you know if you should buy immediately or wait and save longer. Perhaps the most difficult amount to estimate is the appreciation on the house. Your best bet to determine this amount is to speak with a real-estate agent, and watch the articles in the paper which track this sort of inflation.
Here is an excellent tool to determine whether you are better off buying right now or renting a little while longer:
(6 votes, average: 2.33 out of 5)
Loading ...Tags: Closing Costs, CMHC, CMHC Fees, rent vs buy
April 30th, 2008 at 2:43 pm
I think you this article misses the point. You can’t simply look at cash flow as the only basis of valuation. But what is missing is the answer to what you get in the end.
When looking at these two scenarios the utilities and property taxes are not relevant because they are the same under each scenario.
Under the rent option:
Your base rental costs are $450 per month or $135,000 over 25 years (Note I’m going to ignore rent increases as well as mortgage interest rate increases to make the comparison).
What do you get in the end? A place to live and you are out of pocket $135,000.
When you buy you pay the following:
First, the imputed rate of interest on a Canadian 25 year mortgage with monthly payments of $1,254.68 and a principal of $203,800 is 5.59%.
Over 25 years you pay out:
CMHC Mortgage Insurance $7,300
Closing costs: $1,500
Interest: $172,604
Or a total of $181,404
Your original house price will have appreciated 4% per year and would be valued at $519,838.
In the end you are $338,437 richer by buying a house.
Now you might ask me why I excluded the principal from this calculation. Well you exclude principal because you are exchanging assets and there is no increase or decrease in your wealth when you exchange assets. Thus you contributed (or invested) $195,000 of your cash assets for tangible assets that then appreciated in value.
One thing that Canadians must be mindful of is that the United States of America is a different country with a different culture and very different financial laws. It is remiss to use American mortgage calculators because the features are different and the terms are different. Also references to the sub-prime issues in the U.S. have no application whatsoever to Canada. In the U.S. banks were lending money to people who had no jobs or income for 125% of the value of their house. We just don’t do that here.
Unless houseing prices deflate over a 25 year period, buying will always be a better choice.