In Defense of Renting
It’s no secret that Americans love to buy things. Throw a dart at any newspaper from the past 12 months and you’re liable to hit an article about consumer spending, automobiles, or housing. Each of these themes is directly related to buying new stuff. New houses, new cars, new gizmos, new gadgets. The thinking, it seems, is that the key to ending the recession is buying more.
Dare I suggest we consider an alternative? There’s so much emphasis on buying that I need to give voice to the alternative: renting.
To illustrate, let’s walk through each example above.
Housing – It’s long been cited as the American Dream : owning your own home. But if you dig a little deeper, the reality isn’t quite such a happy dream. In the post-war period, almost all home purchases are done using a home mortgage. Down payments generally make up 20% of the purchase, with the remaining 80% financed by the bank and repaid over 30 years (with interest, of course). Do you really “own your own home” if you hold a mortgage? An easy test: stop paying your mortgage for a few months and you will soon find out who really owns your home!
In what could best be described as a good idea long past its welcome, home ownership is heavily subsidized by the federal government in the form of tax credits. All the interest payments for a home mortage are deducted from taxable income. Over a 30 year, $250,000 mortgage, interest payments could total $280,000. Assuming a 30% tax rate, your fellow taxpayers just handed you a check for $84,000. (Now we know where to find the true welfare queens.) Factor in the number of outstanding mortgages in the U.S. and you can start to see we’re talking about real money!
To make matters worse, the brave legislators in Washington have reacted to the downturn in the housing market by throwing even more money into that financial black hole. They’re currently offering an additional $8,000 subsidy for first-time home buyers and are discussing expanding that to $15,000 for anybody. Madness!
What’s wrong with renting? I’m all for it! I would rather not add a massive mortgage debt to my personal balance sheet. Rental properties come in all flavors, from apartments to condos to houses. No one has to know that you pay a landlord instead of a bank each month. And it sure is comforting to know that when the water heat breaks or the roof springs a leak it’s the landlord and not you who’s responsible for repairs.
My critics will counter that “if you’re paying rent you’re just throwing your money away”. When compared to the costs of owning a home, renting is often favorable from a financial perspective. Only a small portion of your mortgage payment actually goes towards building equity. The rest is taken out as interest, taxes, and fees. Even the home equity is a mediocre investment at best–a house never earns money (like the stock of a company) nor is the capital invested (like a bond). Homes are also incredibly illiquid investments, requiring many months (and many more fees) to sell. In short, it’s not the slam dunk investment that charletan real estate agents would want you to believe.
[To be continued]
Filed under culture, economics, frugal : Comments (6) : Jun 26th, 2009 by tadfad
June 28th, 2009 at 11:37
Further what many people leave out in their cost/benefit thought process of buying a home is the upkeep costs. Time/Cost to maintain the yard, physical repairs to the house, and maintenance. When you factor those items in often enough renting works out better.
July 2nd, 2009 at 10:32
1. You spelled defense wrong
2. Wasn’t there a time in history (maybe 20 years ago) that buying a home *was* a killer investment? If home values increase at a rate higher than the stock market AND you get government subsidies – isn’t it a financial no-brainer? I think the problem now is that home values aren’t increasing, people payed inflated prices and they are stuck with that oh-so illiquid asset.
As for the “you’re throwing your money away” argument, I think it has at least some merit. If you are paying a landlord, you are not investing that money. You are buying flexibility and insurance, and those things may be worth more to you than a monetary return … but from a dollars-and-cents standpoint, your return on investment is precisely zero.
Overall, I agree with you. Our culture scorns renters and I think that is a mistake. If you value flexibility and piece of mind more than monetary return, you should rent. Also, the real estate market is completely broken for a variety of reasons right now so it is probably a smart move to just to let the dust settle before making any moves.
July 2nd, 2009 at 10:58
This post really has my brain going – nice work Tad.
Let’s look at the two scenarios.
1. Person buys a $250,000 home with a modest down payment. Assuming a 30-year fixed loan at 6%, the total cost of that mortgage will be ~$560,000. This includes an approximation for property tax, which is another major expense that renters don’t have to pay (at least not directly).
So after 30 years, the home buyer has spent $560,000. So, now we have to ask “was it worth it?”. To answer, we need to guess the home’s value. If we look at the last 30 year period (1970 to 2000 for example) we see that median home prices increased by 504% in that 30 year window. The median price went from 23,000 in 1970 to 139,000 in 2000. So if the $250,000 home we bought increased in value by 504%, it would now be worth $1,260,000. The buyer paid $560,000, but gets to sell for $1.2M. That’s a profit of $1,010,000. Not a bad deal. Even if he did have to kick in $50,000 of repairs and upkeep over time.
2. The renter would have probably paid ~$1,200 per month in rent for a similar home (at least in the midwest, where I am basing this example). For a 30 year period, assuming no increases in rent, he would have paid $432,000. So he saved on raw cost. However, he has nothing to sell. He will have to keep paying until he dies.
Now, my assumption that the home will increase in value by 504% is probably not accurate. Especially if you consider the “bubble” around 2000. I thought I would minimize its effect by cutting off at 2000 instead of 2005. I think we should try to collect more data to find a more realistic estimate for how much the home value would increase. This article says 233% is more realistic…
http://www.consumerismcommentary.com/2007/03/15/the-cost-of-buying-a-home-over-30-years/
July 5th, 2009 at 10:13
The New York Times has been all over this topic. Below is a link to an interactive “rent vs. buy” calculator. If you click the “related article” link on the right, you’ll find an article hitting a some of the same points Tad made above.
http://www.nytimes.com/2007/04/10/business/2007_BUYRENT_GRAPHIC.html
July 9th, 2009 at 08:05
[...] This post continues a thread started here. [...]
July 11th, 2009 at 06:08
There are more comments over on Facebook from this same thread: http://www.facebook.com/note.php?note_id=113086158065
( I set up Fb to automatically create a “note” for all of my blog posts. Unfortunately, this makes two different places to leave a comment and no easy way to federate. Anyone have a solution for this? )