Which is Better: Renting or Buying a Home?

Photo (cc) by faul

Before our nation’s housing crisis began in 2007, the rent-vs.-buy question wasn’t really a question at all. Because the answer was: If you can afford it and you’re going to stay put long enough to recoup the transaction costs, you buy. Simple.

That’s because, for the generations leading up to the Great Recession, buying was always superior to renting for two reasons – one societal and one financial.

As a society, the belief was virtually universal that owning a home was simply what normal, stable adults do. Home ownership has traditionally been known as the “American Dream,” and anyone not in pursuit of it was assumed to be either transient or not able to measure up financially.

Owning a home was also the right idea money-wise, because there had never been a time in modern memory when home values, at least nationally, didn’t escalate over time. In addition, Uncle Sam provides investment incentives in form income tax deductions.

What a difference one recession/housing crisis can make.

Watch the following video addressing some of today’s issues regarding home ownership, and we’ll continue the conversation on the other side.

As you saw in the above video, today whether to rent or own your home has once again become a question, for one basic reason. Owning a home typically costs more than renting one. And if you’re not going to be paid back with appreciation, it may not be worth it.

Are calculators worth using?

There are plenty of online calculators you can use to try to help determine whether you should rent or own. For example, here’s one from mortgage guarantor Ginnie Mae. And here’s a really souped-up version from The New York Times.

But I wouldn’t waste too much time on these type of calculators. Why? Because the answer you’ll get will totally depend on the information you provide – information that you can’t possibly know. For example, among other variables, most calculators will ask you how much the house you propose to buy will appreciate annually, as well as how much equivalent rent will increase over time.

If you know the answers to these questions, you don’t need a calculator. You need to get a job on CNBC.

How should you decide?

As I mentioned above, the rent-vs.-own “question” only became a question again because property appreciation became a question. If housing was still appreciating, it wouldn’t be much of a question at all.

But consider this: If not buying a house for fear of falling prices makes sense, then it also makes sense never to buy stocks, since they also periodically decline. That’s not good logic for either stocks or houses. What falling prices of any kind teach us isn’t that it’s dumb to buy – it’s that it’s dumb to speculate. Over-leveraging yourself by gambling on short-term price swings or otherwise biting off more than you can chew has always been a bad idea.

I’ve been buying both houses and stocks for more than 30 years. Here’s my advice: Use the same rules that have always applied to owning a house…

1. Buy only if you’re confident you’ll be staying put for at least four years. That’s because buying a house has very high transaction costs, and because the longer you own it, the more likely you are to make money.

2. Hope for appreciation, but don’t count on it. You’ll gain equity in your house by paying off the mortgage. If past is prologue – and that’s usually a good bet – you’ll gain additional equity via appreciation over time. But the beauty of a house is that it’s an asset that you live in. Making a home into something that reflects you isn’t something you can take to the bank, but it is rewarding.

3. Don’t get in over your head. The average house in 1950 was less than 1,000 square feet. Today it’s more than twice that. Whatever you buy, you’re going to have furnish, heat, cool, and maintain. As I said in the video above, owning a house can cost 35 percent more than renting one, and owning takes more of your free time.

4. Wait until you’re ready. If you have bad credit and as a result are forced to take on a high-interest mortgage, it will likely cost you tens of thousands of dollars over the life or your loan. Also, the more money you put down, the less you borrow and the less risk you take. So don’t just be ready emotionally, be ready financially. Build your credit and your savings before you build your house.

Forget the calculators: Consider the factors above. If you don’t feel that you’re ready to own, there’s certainly no shame in renting. But if you do feel like you’re ready, I’d encourage you to go for it.

I live in one of the biggest former bubble markets – South Florida. When many of my friends were betting the farm and flipping houses five years ago, I was sitting on my hands. Now that prices are down 40 percent, they’re wiped out – I’m looking to move up.

Disclosure: The information you read here is always objective. However, we sometimes receive compensation when you click links within our stories.

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