Most people assume buying a house is better than renting one. Most would also assume I’d always recommend buying. After all, I own 16 rental properties, run a real estate team, and complete 10 to 30 flips a year.
But despite my experience, I don’t always think it is better to buy. You must consider your market, what you can afford, and your long-term plans. In some cases, renting may make much more sense, even if you have a goal to buy investment properties. The first step when deciding whether to rent or buy is figuring out why you want a house.
Do you want a rental property, a place to live, or a place to live that you eventually want to convert to a rental property? If you want a rental property, you obviously want to buy, but that doesn’t mean you must buy the house you live in. You could rent the house you live in and buy the rental property.
Or you could live in a house for a year and turn it into a rental property. Where do you want to be in one, five, or even ten years? The longer you will stay in one location, the more sense it makes to buy.
Real estate prices have historically always risen, but they can also decline in the short term. The longer you live in a house, the better the chance its value will rise. If you plan to move within one to two years, it may be smarter to rent. Here are some other considerations:
- Selling a house costs money. If you must sell, you need to sell for six to ten percent more than your original purchase price to break even.
- Selling also takes time. In today’s market, houses are selling very quickly, but in a down market, it can take months. If you want to move quickly, buying can be a hindrance.
- Can you qualify for a mortgage? If you can’t get a mortgage, renting is the obvious choice. To qualify, buyers need to have good credit, a steady job, and enough income to cover their current debt plus the new mortgage. Many people don’t realize that a large car payment or two can greatly affect their ability to qualify for a loan. Credit card debt and any payments that you make for appliances, furniture, or student loans all affect your ability to qualify.
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How much does it cost to rent versus buying?
Some markets are better for renting and some markets are better for buying. Again, you must consider how long you want to live in a house. In my market, rental rates are extremely high compared to what you can buy a house for. Here are some numbers on renting versus buying in my area.
Buying a house for $200,000:
- Mortgage payment with 5 percent down: $962
- Taxes and insurance: $200
- Mortgage insurance: $200 (required on most loans where you put less than 20% percent down)
- Total payment: $1,362
- Total cash needed: $10,000 (assuming seller will pay for your closing costs)
Renting a house worth $200,000:
- Rental payment: $1,600
- Total cash needed: $3,200 (for first month’s rent and deposit)
There are a lot of things to consider when making your decision. Monthly rent payments are higher, but you need more cash if you buy. Now, if you can use a VA or FHA loan, you may be able to put less money down, which could make buying a better option.
When you buy, you do not have to make a payment until the second month. That would save you another $1,362 (for the extra month you live in there yet don’t have to make a mortgage payment) over renting.
Even though you need more cash when you buy, that cash is going towards paying off your loan. When you sell, you will get that money back, but you have selling costs like paying a real estate agent.
About $200 of your $1,362 mortgage payment will go towards equity pay down. After one year, you could be paying off $2,000 or more of your mortgage. Therefore, knowing how long you will live in a house is important. The longer you live in a house, the more equity you will gain through mortgage pay down and possible appreciation.
When you buy, your interest part of the mortgage payment is also tax deductible. The savings from the tax deductions will vary based on your tax bracket, but for the average person, it’s approximately $2,500 per year. Looking at the numbers, buying a house costs $238 per month less than renting, and you gain $200 in equity pay down, $196 in tax savings, and $500 per month if your house appreciates three percent each year.
That is over $1,100 per month in savings over renting. That savings more than makes up for the extra cash you must spend to purchase the house. There are, however, more things to consider.
What about the maintenance and repairs a house requires?
When you rent a house, you do not have to pay for maintenance and repairs. The landlord will pay to make repairs. When you own, you are responsible for all maintenance and repair costs. When an investor owns a rental property, a good rule of thumb is that 10 to 20 percent of the monthly rent income will be used for maintenance.
I think that same figure can be used to determine how much maintenance your house will need. If your monthly mortgage payments are $1,300, you can count on annual maintenance and repair costs of at least $1,300. $1,300 is not a lot of money to spend on maintenance, but often, we want to improve or update our house.
Improvements are a hard thing to value, but in most cases, they add value. In some cases, they will add more value than they cost, and in other cases they will add less.
Why buying will always beat renting if you do it right?
To this point, it looks like buying a house beats renting, but there are many factors we did not consider. In many areas, rental prices are not as high as they are in Northern Colorado, and it does cost less to rent in those areas. In some areas, house prices are extremely high, and rent control is in place which keeps payments low.
Even in those areas, there is one thing that will always make buying a better option. If you can buy below market value, you can make thousands as soon as you sign the paperwork. When I buy houses, I want to buy them at 20 percent or less of what they are worth.
For me, I aim to pay $160,000 for a $200,000 house, and that would make me a lot of money as soon as I close. To get a deal like that, I might have to make repairs, and it takes a lot of work and patience.
If you are willing to do the work and find those deals, buying beats renting every time. Another thing to consider is that when you buy, your mortgage payment is locked in. Your taxes and insurance may go up, but the actual payment to the bank will stay the same (unless you get an ARM, which we will discuss later).
When you rent, the landlord can decide to raise the rent as soon as your lease is up. I have seen many renters who paid well below market rent for many years. They assumed rent would stay the same, but the landlord raised the rent or the property was sold, and the tenants had to find a new place.
You can lock in your mortgage payment for 30 years, but you will have a hard time locking in a rent payment for more than 1 or 2 years. Buying over renting may seem like an easy decision, but many people do not want to take the time to get a great deal.
Many people also want to move within a year or two, and in these cases, it may make more sense to rent. If you can take the time to buy houses below market value and you consider the other advantages, buying is the clear winner.
Learn more about how to buy a house.