Buy vs Rent vs Invest Your Money
May 28, 2011
For years I’m asked this question: “Should I buy my own home or rent?”
Well, my first answer is it depends, mostly on where you live. As a rule of thumb it is makes sense to own if the cost of owning (mortgage, interest, insurance, and taxes) is similar to the rent you would otherwise pay, on the same property. In other words, how much would it cost to rent vs. own the same piece of property.
Life mostly don’t give us rule of thumb situations and such decisions are more complicated.
For starters, lets take out of the equation any emotions. Things like “I love this house” or “My parents always told me I should own my own house first”, or “if I own I can make changes to it”. It is impossible to put a price tag on these arguments.
While I have owned many properties over the years, I have always been a renter in my own home. I have chosen to live in places where owning is expansive. By the way, and as much as I can say, in expensive real estate areas, such as the San Francisco Bay Area (SFBA), rent is cheap, cheap relatively to the cost of the house.
If in the past the answer of rent vs. own was easier to answer. Today there is a shift. For the most part in the SFBA the difference between owning or renting the same property used to be in favor of renting, financially it made more sense. Today, buying your home in the SFBA makes more financially sense then before.
Main Two Reasons
The two main reasons that are making the SFBA, and many other parts of the country, more affordable are:
- Low interest rates
- Low housing prices.
But are these reasons good enough to go into homeownership? One additional main factor that we mustn’t overlook is the down-payment. If 20% (not including closing costs) is the minimum required then a down-payment can start as low as $60,000 for a $300,000 home and can go all the way up to $170,000 on a $850,000 house, and even higher than that. In both cases not small change, especially when you can buy a full house for cash for the same amount of money in other places throughout the country.
Let’s compare three scenarios. In order to simplify it I have eliminated all tax implications, took out benefits of owning and have not factored in repairs and maintenance. I have factored in a 1% annual appreciation.
First, three homes in three different cities in Silicon Valley. In this scenario we are comparing buying and renting these houses.
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Second, how would the alternative of buying one investment property in a different market will look like.
Third, let’s see how you can invest the same down-payment amount of one house in Silicon Valley as multiple investments.
What can we conclude from this exercise?
Bottom line we can see that with the same down-payment amount, $170,000, we can buy one house in the SFBA or 7 investment properties elsewhere. 7 properties financially are more powerful then 1 property in the SFBA, and are probably safer too (one egg in one basket).
Of course there are advantage and disadvantaged to each approach. For example, the $250,000 tax exemption home owner has or maybe just the fact that you wouldn’t want to be a landlord of 7 properties.
Should you decide one way or the other, the important point is to be educated in order to make the best decision for yourself.