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Renting vs Owning – The Ultimate Showdown

There has always been a constant debate among experts and economists over the pros and cons of homeownership. These discussions often focus on how much interest is paid over the life of a loan while ignoring equity build-up and tax benefits during the same period. And, frequently, they ignore basic human behavior by imagining people investing 100% of their savings from renting month after month for decades. This discussion has become more prevalent as we continue to see a rise in mortgage rates.

In light of these discussions, we decided to show a little perspective showing a historical performance, to effectively compare the immense difference overtime of “Renting Vs. Owning”. See graphic below.

Your three choices are Owning, Renting and Investing 100%, and Renting and Investing 10%.

So let’s take a little journey through the home-buying process. In each of these three columns, you go back in time to 2012 and make a different choice around homeownership. You wonder whether it is the right time to buy or just to continue with renting and invest a percentage of your savings to S&P 500 Mutual Fund.

The following scenarios are as follows:

1. Owning – Listening to an advise from a realtor, the column shows that instead of renting, you purchased a median-priced home for $177,200 with 10% down and paid about 4% in closing costs. For nearly a decade, you let equity build up through price appreciation and the forced savings of paying a mortgage. 

2. Renting and Investing 100% – Second scenario shows you invested the unused 10% downpayment and the unpaid closing costs in an S&P 500 mutual fund. With incredible self-control, you invested 100% of your monthly savings (from not buying a house instead of renting) in the same S&P 500 mutual fund for ten years. You watched your stock portfolio increase as a result

3. Renting and Investing 10% – After reading an article on the merits of renting, you rented a median-priced place. You invested the unused 10% downpayment and the unpaid closing costs in a S&P 500 mutual fund. With more (ordinary) self-discipline, you invested 10% of your monthly savings (from renting instead of buying) in that same S&P 500 mutual fund. You did this for ten years and watched your stock portfolio grow.

So which scenario “wins”? It depends, renting for the first few years can be considered the better choice. However after the 3rd/4th year the balance tips in favor of homeownership. Building wealth and equity through homeownership provides you the most profit overtime, even after all the additional costs. To put that into perspective, if you purchased the home, you came out with over $77,000 more than the superhuman who invested 100% of their savings, and over $126,000 more than the more-averagely-disciplined renter.

This suggests that if you are planning to live in an area for more than three years. You should seriously consider buying rather than renting. This is why seeking a professional opinion from a real estate wealth advisor is important to ensure that the right strategy is taken that fits your specific needs.

It is also important to note that lifestyle choices can heavily impact our financial situation. Regardless of how much money you earn, spending habits directly affect your net worth. Whether you are buying or renting, having keen financial intelligence and awareness is the best thing you can do!

Inside the Numbers

The next paragraphs will help you visualize how we have arrived to the numbers we did in the graph above. This is to provide you a comprehensive view on how net profit is estimated after all associated costs of owning a home. 

With regards to homeownership. We used actual appreciation for each year based on the data from the National Association of Realtors. We estimated private mortgage insurance (PMI) at 0.5% of the mortgage until our equity reached 78% of the home value. We got to drop the PMI between year two and year three. We also estimated maintenance (0.1% of the home value per month), insurance (0.25% of the home value annually), and property taxes (2% of the home value annually). Additionally, we accounted for buying and selling costs each year when calculating the “owning” column. Therefore, the “owning” column represents your net after all costs including commissions. 

There are two homeownership factors we did NOT include: the mortgage tax deduction (which has too many variables to estimate) and a hardware store addiction (which might include enough garden gnomes to undo your appreciation).

To give light as to how the number in the renting column is derived. We used CoStar’s annual median rents for “Class A Residential” costs to estimate the one-month deposit for the two renting paths. Rent started at $1,137/month and increased by 3.6% annually for the decade. We did not consider renters’ insurance.

In the period between 2012 to 2021, homeownership saw postive appreciation. We had an average annual increase of 7.4%, exceeding the long-term trend line of 4%. However, the S&P 500 grew by 15% annually, performing even better(the numbers shown excludes the annual fees from the mutual fund). 

Real Estate = The Safe Investment

A paper from The Federal Reserve Bank of San Francisco found that residential real estate has had the highest returns of all long-term investments, averaging 7%, over twice as high as equity investments, which averaged around 4%. The authors state that housing’s returns are likely due to its low volatility, which appeals to investors looking for safer investments.

Homeownership comes with undeniable advantages, not only can it help you build wealth and provide a nice place to call home, but it also comes with significant tax benefits. Whether you’re looking at a new home or considering a seasoned one, now is a great time to explore the benefits of homeownership. Reach out to your Red Sign Real Estate Advisor to discuss what is the best financial plan for your future!

Source Credit: Jay Papasan, Co-author of The Millionaire Real Estate Agent

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