13

Option A: $3600 (RENT) for a 3/2.5 condo.

Option B: $629,000 (BUY) for a 3/1.75 house.

This is in the Los Angeles area.

Looking to live in this area for at least a year, maybe more. The house wouldn't be something we'd live in for 20 years or anything, but we could live there a few years then rent it out or sell.

According to my calculations:

1 year of rent = $43,200

1 year of owning = $25,000 in mortgage payments + $7800 taxes = $33,000 total.

Assuming we put 20% down on the purchase option.

So it seems like buying is the better option right? Saves $10,000 over the first year, and that doesn't even count any equity. It's just more risky - I guess the market could always take another dive and we'd lose money.

Is there anything else we should be thinking about? Any advice? Assume we like both properties equally.

John Bensin
  • 15,018
  • 3
  • 69
  • 112
rentorbuy19
  • 153
  • 4
  • 4
    What about maintenance costs that come with owning a home, but are usually included in rent? – John Bensin Mar 31 '14 at 02:31
  • 2
    Don't forget that you can rent the property out if you decide to move after a few years. That is what owning real estate is all about, monthly income that generally follows inflation.

    Is there anything you do/can invest your deposit in that will get a similar or better return? It almost sounds like you have your answer already.

     – sdgenxr Mar 31 '14 at 02:55
  • 2
    @sdgenxr - everybody who wants to be a landlord should look hard at the up and downsides to get a feel for what it is like. It isn't a no-brainer and really depends on a person's work ethic. – MrChrister Mar 31 '14 at 14:10
  • 1
    I've always wanted to own my home, and I nearly bought a house right out of college. I didn't and I'm fairly glad. The reason is that most people don't factor in all of the amenities and services that renting provides. I still want to buy a home very soon, but in the meantime while I work 60 hours a week, having everything taken care of by the landlord is really nice. Just keep in mind: house = time = money. – GJK Mar 31 '14 at 17:40
  • 1
    This assumes rent is stable across contracts. Mine increased every year. – Izkata Mar 31 '14 at 18:40
  • A few more considerations: given that you used ~$125k for the down payment, what's the return you could have realized if those funds were invested elsewhere? More accurately, how much better (worse) are the returns from another investment than the return realized by (eventual) sale of the home? Also, there is value (hard to quantify) for mobility. Suppose you get a great job offer in a different place. Now you may have to choose from one of four courses: (1) decline the job offer, (2) rent the house, (3) pay the mortgage on an empty house (for some period), (4) sell the house at market value. – Jubbles Jan 05 '15 at 18:31

5 Answers5

10

In most cases my preference would be to buy.

However, if you intend to sell after just one year I would maybe lean towards renting. You haven't included buying and selling cost into your equation nor any property taxes, and as John Bensin suggests, maintenance costs.

If you were looking to hold the property for at least 5 years, 10 years or more, then if the numbers stood up, I would defiantly go with the buy option. You can rent it out after you move out and if the rent is higher than your total expenses in holding the property, you could rely on some extra passive income.

Victor
  • 20,991
  • 6
  • 47
  • 85
8

The New York Times has a useful rent-vs-buy calculator. Based on your numbers, it suggests buying makes sense if you stay in the house for 5 years or more. This is just based on default values for various other parameters, though, like mortgage interest rate, rent increase rate, etc. You could try playing around with the numbers. Also as other answerers said, maintenance costs, closing costs, etc., should be factored in.

If renting it out is a possibility even if you move out, it could be a better deal. One thing to think about renting-wise is, if you move out, where are you likely to move to? If you move far away, it could be impractical to manage the property as a rental. You could hire someone else to do that, but that would reduce your income from the rent. On the other hand, if you stay in LA, it could be feasible to manage the property yourself.

Another key factor is, what rent would you be able to charge for this house? If you can make enough in rent to cover the mortgage payment, you may be in good shape; but due to overpriced real estate markets, sometimes you won't be able to do that, which would mean renting it might not be cost-effective.

BrenBarn
  • 23,964
  • 6
  • 60
  • 80
6

Your calculations are good as far as they go, but there are lots of other factors and pros and cons to each decision.

  1. Yes, you should certainly compare the monthly rent to what your mortgage payments would be, as you have done.

  2. Yes, you should consider how long you might live there. If you do move out, how difficult will it be to sell the house, given market conditions in your area? If you try to rent it, how difficult is it to find a tenant, and what rent could you expect to receive?

  3. Speaking of moving out and renting the place: Who will manage the property and do maintenance? Would you still be close enough to do this yourself? Would you be willing and able to spend the time? Or would you have to hire someone? Also, what if the tenant does not pay the rent? How difficult is it to evict someone in your area? Speaking from personal experience, I own a rental property in Ohio, and the law says you can evict someone with 3 days notice. But in practice they don't just leave, so then you have to take them to court. It takes months to get a court date and months longer before the police actually show up to order them out of the house. And you have to pay the lawyer and court fees. In that time they're living in your property rent free. In my case one tenant also totally trashed the place and stole everything that wasn't nailed down -- I had to spend $13,000 on repairs to a house worth a fraction of what you're talking about. Being a landlord is NOT just a matter of sitting back and collecting rent checks: there's a fair amount of work and a lot of risk.

  4. What do you have to pay the realtor, and what other closing costs would you have to pay? Where I live, realtors typically charge 6 to 7%. You may also have to pay for an appraisal, title search, and bunch of other little fees.

  5. Mortgage interest is deductible on your federal income taxes. Rent is not.

  6. If you own and something needs to be repaired, you have to pay for it. If you rent, the landlord has to pay for it.

  7. If you own, you can do pretty much what you like with the property -- subject to zoning ordinances and building codes and maybe homeowners association rules, but you should have a pretty good amount of leeway. If you want to install ceiling fans or remodel the kitchen or add a deck, it's up to you. If you're renting, it's up to the landlord to decide what you can do to the property. And if he agrees to let you do some upgrade, when you're done, it belongs to him.

  8. With a condo, you are not usually responsible for exterior maintenance, like mowing the lawn and trimming the bushes and washing the outer walls. With a house, you are. You might pay someone to do this, which adds to the cost, or you might do it yourself, which takes time.

  9. Insurance on a condo or aparment is much less than insurance on a house. In my area, anyway. You should investigate those costs.

  10. If you buy, eventually you own the place and don't have to pay a mortgage any more. If you rent, you continue to pay forever. (Even if you don't live in the same house forever, as long as you don't take a terrible loss when you sell you should then have some money left over to apply to the next house, so you are still building equity.)

Some of these pros and cons are easily quantifiable. Others are probabilities, like how likely is it that your water heater will fail?, and how long is it likely to take to find a buyer if you want to sell? And others are pretty subjective.

Jay
  • 22,675
  • 1
  • 32
  • 72
4

I plotted your figures in my Buy or Rent app. It compares the equity of buying or renting by calculating what your mortgage payment would be and comparing the alternative case if you rented and invested an equivalent amount.

Clearly for the amounts you specified it is better to buy, but if you change the amounts and interest or property appreciation you can see the equity effects.

enter image description here

Chris Degnen
  • 9,797
  • 1
  • 20
  • 36
  • 1
    Nice graphic, but somewhat simplistic w.r.t. the home purchase. What about up-front fees, ongoing additional fees outside the mortgage, apreal-estate commissions on the back-end, and tax considerations? – Chris W. Rea Mar 31 '14 at 15:08
  • The calculator was designed as a tool to show the effects of interest rates, appreciation, inflation. I might add features for partial mortgages and taxes sometime, but it works well for the rate effects which is usually the first area of bafflement. For that purpose it's no bad thing to keep it simple. (I have no idea when version 2 may appear.) – Chris Degnen Mar 31 '14 at 15:52
  • 2
    While keeping the calculator simple has some advantages, your answer could mention the caveats (or the calculator could, in a footnote.) Else it oversimplifies for those who might not be aware of the other factors. – Chris W. Rea Mar 31 '14 at 16:10
2

When looking at buying and selling, you really need to look at the overall picture for the short term. What would the closing cost be? Would you pay a buyers agent, or use the sellers? Loan generation fees? All of these would add up, and would affect you timeline adversely. You are currently comparing you rent, versus your plain mortgage and taxes. You're missing the losses you could possibly incur, if you do not stay int he home for the long term. You also have to rememberer the possibility of the property not renting long term, can you swing two mortgages? Or a mortgage and a rent check?

FossilizedCarlos
  • 151
  • 5