Maybe it’s my inability to give up my youth, but I continue to question my sanity when I see friends buying homes or apartments. I still really haven’t fully figured out how to do my laundry yet, so when the buying versus selling argument arises, I guess my head begins to spin a little. I’ve been thrust into the debate a few too many times. When it comes down to buying a home versus renting a home, many contradictory narratives foist themselves to the forefront. I constantly hear these things from the people around me:
“Buying a home is a good money decision”
“Renting is throwing money away when I could be investing into actual property that I can own”
“At the end of a mortgage, you have a home. At the end of a renting cycle, you have nothing.”
And more recently, new narratives have begun to emerge, likely thanks to millennials.
“Buying a home is a good decision if you want to throw away half a million in interest.”
“People don’t account for the added benefit of flexibility and movement in renting.”
Ultimately, people get very defensive and passionate about these topics as they have likely committed hundreds of thousands of dollars into their decision, regardless of which side of the debate they fall on. The stakes are high and no one wants to feel that the decision they’ve made - likely the biggest financial decision of their life - was the wrong one. Lucky for everyone, there isn’t a right decision and I’ll tell you why. I’m going to compare the financial pros and cons of making both decisions, debunk some myths, and go through what each decision means for you moving forward.
The most common argument that is stated in buying a home is in regards to wealth creation. Well, let's take a look at the most typical loans, 15 and 30 year fixed loans, as that's typically what most people can afford to pay per month. In these situations, buyers know exactly what their monthly payments are going to be for the whole length of the mortgage (because its a fixed interest) and can refinance if needed. For example, if I were to take out a 30 year mortgage on a $500,000 home today with an annual interest rate of 4.54% (the average in 2019) and a down payment of 10%, I would be making a monthly payment of $2290.79. I will make that payment every month for 30 years. When it's all said and done, I will have paid $874,685.30 for a $500,000 home. I will have paid a total of $374,684.57 in interest. For the same conditions with a 15 year mortgage, my monthly payment would be $3451. I will have paid $667,850 for a $500,000 home. I will have paid a total of $171,288 in interest. None
Now, although those numbers seem kind of shocking when you take a step back, they are very common. Plus, these numbers don't include all of the additional fees that come along with purchasing a home. I will speak about these in my pros and cons list below. For some, the interest paid on the example above is less than what they had to pay on their mortgages, considering interest rates have historically trended downward and down payment requirements have also decreased.
There are a million considerations to make that can adjust the cost of your mortgage slightly: open or closed mortgages; size of the down payment; variable or fixed rates; mortgage length; refinancing, etc. All that matters is that you recognize that unless you are really wealthy, you are going to be paying A LOT in interest. That's just a pill that you are going to have to swallow in purchasing a home. The foregone conclusion that home ownership is a great financial investment is false. Although it may not be a great financial investment (a tool built for making money), it still may be a great investment, depending on your needs. With that forfeited interest comes a lot of benefits and downside:
You can resell your home later to recoup some value
It’s your home - you can do with it what you please. If you want to tear down walls or put up paintings or change room colours, you can do it. You don’t need to worry about getting approval from a landlord or losing part of your deposit. You can make it your own.
Tax advantages in owning a home
Buying provides you with more options due to customization
Better offerings and environment for families
You can develop a strong credit score/reputation
Security and equity - you don't have to worry about renewing a lease
You have the option of buying to rent - meaning you can immediately rent your space out to offset the costs of the mortgage you’re paying
You are where you are. You are firmly grounded. Picking up and leaving is a hassle and costly.
There are a variety of expenses that come with home ownership that do not exist with renting, such as the following:
Mortgage origination fees
Closing costs (usually include escrow fees, property taxes, interest)
Realtor / Lawyer fees when selling
All utilities (sometimes utilities are covered in renting)
Homeowners insurance and all of their subcategories of insurance
Condo or HOA fees
Any maintenance and repairs - can be BIG costs over time
Commuting costs - if you buy, its likely in the suburbs, making more travel costs compared to renters that on average live closer to the central part of the city
Investment opportunity cost of having your money tied up into a down payment and the subsequent mortgage instead of being able to invest your money into different liquid assets (assets that can be withdrawn quickly in times of crisis)
This is an incredibly important point to consider - renting does a far better job as it frees up your money to be invested. On average, renting and reinvesting wins in terms of wealth creation regardless of property appreciation. Looking at US Labour Bureau statistics, home appreciation averages almost 3.5% less per year in return compared to the S&P 500, a financial index that measures the performance of the market, a place where you can invest your money.
Therefore, the argument that “the money spent on renting goes nowhere” is null. In both situations you will have sunk costs. Often times, the amount of payments that you make in fees throughout the life of a mortgage can be close to the amount of rent people pay.
In making the decision to purchase a home or not, people use a general rule of thumb: if you are going to purchase a home, you should expect to live in it for at least 5-10 years. This way, the growth in value of the home will at least offset some of the closing costs and one time fees that come from a mortgage. Also adding to the negative parts of owning a home short-term is that in the first half of a mortgage, the ratio of payment that goes toward the principal compared to the ratio that goes towards interest is tilted very hard towards the latter. Therefore, if you exited your mortgage in the first 5-10 years, you will have paid off very little of the principal of the mortgage. Most of it will have been interest. The mortgages are structured this exact way to prevent homeowners from exiting their contracts, as it means that the bank or lending house will cease to make interest off of you. So, they make you pay an exorbitant amount of interest in the first half of the life of the mortgage.
The most common argument against renting is the old adage that the money spent is as good as being flushed down the toilet. In reality, much of it is about perception. We perceive rent money as being a sunk cost, but rarely do we look at groceries or the interest on a mortgage the same way. Both are necessary basic human needs, so it's important that they are viewed in the same light. Additionally, like I previously stated, homeowners are paying a considerable amount of interest per month on their mortgage as well, and in the end, many of the costs can equal out.
Flexibility - renters are essentially able to pack up and move at very short notice. Even with leases, contracts are often very negotiable and when they are broken, the costs are typically fairly low. Being able to do this reflects a certain lifestyle and can’t be quantified in value, but is an extremely important consideration. If you want a change of pace, you can look around and move with fairly minimal effort and costs
You can live more of a minimalist life - renting requires you to have less possessions. Many landlords/owners provide options where you can pay more per month to have the place furnished - that means you don’t have to buy a lot of your own stuff, adding to your flexibility
The cost per month is less when renting. Like previously stated, renting costs are less per month and don't require a down payment, only a small deposit, freeing up more cash for you to save and invest at a higher return
Don't have to worry about your property losing value
All of your maintenance/repairs are covered by your landlord
Your budget is more predictable and plannable - when owning, random costs arise all of the time - floods, damages, mould, renovations, etc.
You get access to amenities and discounts depending on where you live - for example, my building has a pretty decent gym built into it. I’ve seen other buildings have movie theatres, cafe lounges, rooftop patios, etc. Some building managers have partnerships with local restaurants and businesses to provide discounts for their tenants
More accessible locations - you can live in areas where you likely wouldn’t have been able to buy in
Only insurance required is tenant insurance
You are unable to recoup value or build equity
Less space on average
Less privacy on average - you typically have neighbours on all sides; sometimes, with really thin walls
You typically are unable to make big changes to the apartment. You essentially lack creative control of your own space, depending on your landlord
You are bound by the rules of a lease agreement - meaning you may not be able to have pets, a certain number of people in your place, or other restrictions
There is no guarantee that the landlord will offer to extend the lease when it expires, AKA a lack of security in location
Their are often renting costs associated with parking. This is more applicable to renting situations in busier areas of the city
In conclusion, much of your choice is less about which decision is the correct one, and more about what stage of your life you’re in, what your needs are, what your financial resources are, and where you’re located. If you’re a 30 year old bachelor working downtown living on a budget in Edmonton, it probably doesn’t make much sense to buy a home. If you’re a family of 4, with two children, working on a strong household income in the greater Vancouver area, it probably doesn’t make much sense to rent. So much of this is about circumstance and both options have really great pros and bad cons. Instead of looking at what others around you are doing, take the time to reflect on what you want or what your goals are and have that be reflected in your living situation. I live in an apartment building myself and many families live in apartments with their children. Conversely, I’m sure there are many bachelors with their own homes. As long as you make the proper financial considerations I have pointed out above in your decision making, you can’t go wrong, because there isn’t a right.