In fact, these "throwaway" expenses are generally more than you are likely to spend on rent. If the only financial advantage to buying a home were building equity, it wouldn't be enough to offset these expenses, and it would be better to rent. The reason that buying is usually better than renting is not because you avoid throwing money away, it's because:
Freezing your monthly payments is where the real benefit is. Were it not for this, for many people it would make more sense to rent. This is the gem that makes home-buying worthwhile.
There are a couple of other advantages to buying:
This is a big advantage, but it doesn't get your costs down to zero. You will still pay for taxes, insurance, and maintenance even after your loan is paid off. On a home worth $180,000 that could be around $525/mo. Sure, that's better than the $1000/mo. you could be spending on rent, but it's not free.
For most people this advantage is pretty small, so we won't consider it in our analysis below. You can certainly include it in your own analysis if you want to be complete.
HERE'S AN OVERVIEW OF BUYING vs RENTING:
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Renting |
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Owning |
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What You Pay For |
Rent (and possibly renter's insurance) |
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What You Can Deduct on your Taxes |
Nothing If you run a business from your home, you can deduct part of your rent and utilities - but you still get the home office deduction if you own your home. |
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* Interest on mortgage, and property taxes (only if you itemize) |
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How you can build an investment
How you could screw up this investment |
Take the money you would have spent on a down payment for a house and on high monthly mortgage payments, and invest in something else instead.
Fail to invest your extra money somewhere else. In that case, you have no investment. |
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Your house is your investment. When you buy your house, your stake in the house is equal to your down payment. (If you put 10% down, you own 10% of the house when you start.) As you make monthly mortgage payments for 15-30 years, you'll gradually own more and more of the house. Also, the house will get more valuable over time. Appreciation rates vary widely, but 6% is a good rule of thumb. Once you've paid your house off in 15-30 years, you no longer have to make a monthly mortgage payment. All you'll have to pay is taxes, insurance and maintenance. Besides that, you live for free. It's hard to screw up this investment. The main way would be paying too much interest, by getting an ARM mortgage with unfavorable terms, or failing to refinance a FRM when rates drop |
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. Even though it's hard to 'mess up' this investment, it's easy to avoid maximizing it. Even before you finish paying off your loan you own a substantial portion of your house, but that value is locked into the house so it's not cash in your pocket. To convert your investment to cash, you must either sell the house (and start over with another one), or borrow against your existing home and invest the cash in something else (a second house, a business, a socially-responsible mutual fund, etc.). If you don't do one of these two things, you'll never see any real money from your investment. The best you will do is to not have to make monthly payments any more when the house is paid off, which will take 15 to 30 years. If that's all you want, then fine. But you do have extra financial power locked into your home, which does nothing for you unless you tap into it. |
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Pros |
* Simple |
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* Pride and comfort in owning your own home. |
Here is an outline of what to consider when comparing renting to buying. If it's too daunting for you then you can always use a rent vs. buy calculator instead, such as the one on and E-Loan. Be aware that the results from these calculators will be only as good as the numbers you put into them; the default values for things like the appreciation rate or your savings/investment return rate could be drastically different from reality. Unfortunately, detailing all the values that go into a calculator could be the subject of a small book, and is beyond the scope of this web page, though we do provide a fair amount of background material below.
Here's a summary of your expenses for renting vs. buying.
Rent
Down Payment
+ Closing Costs
+ Mortgage Payments
+ Taxes
+ Insurance
+ Maintenance
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Total Cash Out
------------------------------Equity built from down payment
+ Equity built through mortgage payments
+ Equity built through appreciation
----------------------------------------------------------
Total Assets
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Total Expenses = Cash Out - Total Assets
Let's start building a complete example, building it one step at a time. Let's say you're currently paying $1000 per month in rent. You're thinking of buying a $180k home. How do you compare the two?
First we figure the payments on the loan. A $180k house with 5% down ($9k) means a $171k loan. At 6% interest over 30 years your monthly payments would be $1025. (See figuring your monthly payment .) The following table shows how much we'd spend over 30 years for renting vs. buying. In simplest terms here's how it looks for buying vs. renting:
Amount spent when renting vs. buying |
Renting |
Buying |
Spent over 30 years |
$360,000 |
$369,000 |
So far it costs $9,000 more to own the house. But to be more accurate we need to consider closing costs. Closing costs vary widely but let's assume 3% of the purchase price ($5400), and that you roll them into the mortgage.
Including closing costs |
Renting |
Buying |
Spent over 30 years |
$360,000 |
$381,000 |
Th
In most cases, it's better to buy a home than to rent.
But, not in every case. Comparing buying to renting is actually a fairly complicated endeavor. Here are some quick rules of thumb.
You should usually buy instead of rent except when:
BUILDING EQUITY VS "THROWING YOUR MONEY AWAY"
A big myth is that it's better to buy because by owning a property you're not "throwing your money away on rent". However, when you buy a home you will still throw money away on things that don't build any equity. These include:
