When you’re young, you should start by renting. Quickly save up a down payment and buy a house once you have enough for a down payment. This keeps you from throwing away your hard earned money. This is the traditional advice given to someone my age. However, this isn’t the best advice for everyone.
As usual, I like to use real-life numbers when exploring my options. In this case, I’m going to look at a real rental in my area as compared to buying in the area.
The rental prospect is a 1,640 sq. ft. home with 3 bedrooms, 1.5 baths. This house was built in 1936 and situated in a nice, quiet neighborhood. It’s currently listed for $2,590/mo. The home was purchased in 1999 for $565,000.
A few blocks away we have a 1,550 sq. ft. home with 3 bedrooms and 2 bathrooms. This home was built in 1936 and is listed on the market for $825,000. This house has only been on the market for 20 days, so there’s no reason to think the price is too far off the market at this point. (Update: The house sold for $830,000 within a month of being listed for sale)
From what I can tell from the pictures online, both homes appear similar in condition.
Now, there are many factors that will determine whether it makes sense to buy or rent a home. Some of these factors can be quantified, and others can’t. The pride associated with owning your home can’t be quantified. This is going to be different for each person. Some of you may want to own your own home, while others may want the freedom that renting provides. Renting vs. buying a home will also be largely affected by your career and lifestyle. If you’re not sure where you are going to want to live in five years then it’s not going to make sense for you to buy a home.
There are some nifty tools online that will help you with the math of whether renting or buying makes sense for you. One of the tools I find neat is a graphical rent vs. buy calculator provided by the New York Times. As you can see below, the NYT calculator says that buying will pay off after 19 years. This, of course, is based on a number of assumptions that are simply too hard to predict. The greatest variance is going to come from the annual price change assumption. The safe assumption is the long-run inflation rate, so I used 3%. (To get a better understanding of a long-run appreciation of homes, I highly recommend this post) If I were to change this assumption up to 5%, NYT believes it makes sense for me to buy as long as I plan on staying in the place for 5 years.
You have to be careful when looking at these calculators because, if you intend to sell the home after the holding period, you must factor in your selling costs, which are typically about 6-7% of the home’s value. So if I intended on staying in the home for 19 years and selling, I wouldn’t really be coming out ahead. I’d have to factor in the 6% selling costs.
There’s no doubt that most of us either want to, or already do, own a home. It’s the American dream. And the only guarantee when it comes to home prices is the price today. Who knows what tomorrow will bring. If you want a home, and you can afford it, then I think it’s going to make sense for you to buy a home you want. I think the decision is much more personal than any financial calculator can convey. So, some quick rules of thumb: If you want a home, can afford it, and plan to stay there at least 10 years, go for it. If you want a home, can afford it, and only plan to stay there 5 years, then I’d say hold off. Particularly with the current volatility, I’d only buy a home at this point if I intended on being there a while. Whatever you choose to do, as long as you’re aware of the costs and associate risks, any decision you make is going to end up just fine.