Does renting make you richer?

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Does renting make you richer?

Postby elcamino » Fri May 18, 2007 5:37 am

After reading Renting Makes You Richer, from one of JD's link-posts the other day, I think I ended up being more confused than ever. From what I could tell, the point being made was as follows: If you have $300k and invest them in a house, you'll just break even with inflation, while investing the money long term in the stock market will make you around 7%, adjusted for inflation.

But does this still hold true if you borrow the $300k instead? As long as the interest on the loan is less than the annual return on the stocks, wouldn't it make sense to invest your $300k of savings in the stock market and lend money to buy the house? Also, doesn't buying the house in practice insulate your housing costs from inflation?

Which brings me to yet another question. If the average interest is less than the stock market's (historical) annual return of about 10%, why the rush to pay back your loans? I'm 25 now, wouldn't it make more sense for me to stretch out my mortgage almost to retirement age (or at least, say, 30 years) and invest the monthly difference in the stock market instead?

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Postby MossySF » Fri May 18, 2007 7:43 am

There's a lot of different factors but the main one is the rent:own ratio. Not only does that control your initial lumpsum you use to seed either the stock market or leverage your home buying but it also controls how much every month you can continually put into the stock market.

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Postby jdroth » Fri May 18, 2007 8:10 am

Elcamino, from what I've read, there's no one-size-fits-all answer to these questions. This is a case where "do what works for you" applies.

Many people make a convincing argument, for example, that it doesn't make sense to pay off a mortgage early, that it's best to spread it out over thirty years and let inflation work its magic so that you're paying less for the loan in the long term. Assuming a 6% loan and 3% annual inflation, your effective interest rate is just 3%, which is a very good deal. You're right: it's easy to beat that with stock market investments.

However, other people (Dave Ramsey, for example) argue that the freedom derived from paying off a home early is worth the financial sacrifice. For one thing, paying off your mortgage is a <i>guaranteed</i> return on your money. For another, it frees up a huge amount of cash flow, which can then be used for other things. Or, alternately, it might allow you to cut back your work hours. (I know that if Kris and I had to pay $1600 less per month, I'd be blogging full-time right now.)

So, depending on your situation, it very well could be a smart choice to just make regular mortgage payments and to put anything exrtra into other investments.

I don't think there's any one right answer here. It depends on what your goals are.

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Postby brad » Mon May 28, 2007 5:58 am

I've been thinking about this a lot lately, as we're in the process of buying our first home. I've rented all my life (I'm 48), and when I look at what I'm about to get myself into I wonder if owning is such a great idea.

I think my main concern is repairs and the headaches of having to deal with things that go wrong. When I look at all the money I'm going to have to pour into maintenance over the next 20-30 years, plus any renovation work that will be necessary simply to maintain the value of my home, I wonder if it's such a great investment. There's also the cost in time and aggravation. When you're renting and your roof leaks, all you have to do is tell the landlord.

There are also additional or higher costs that I didn't have to deal with as a renter, including higher insurance costs (since now we're not just insuring our belongings but the entire house as well), and one-time fees such a hefty "welcome tax" (about $4,000) and the costs of an inspector ($500, which is almost as much as what we pay each month for rent in our current apartment).

Plus there's all that interest on the mortgage that we'll have to pay to the bank. We did get a good rate (5.24 percent for the next five years) and I'm planning to pay it off quickly, but still I think that if we didn't buy, stayed here in our apartment, and put the difference into investments, we'd probably come out way ahead in the long run. Our rent is only $550/month for a small three-bedroom apartment; when we buy the house (still just three bedrooms but more space) our mortgage payments will total more than $2,000/month.

Sure, there are psychological advantages and quality of life advantages to having your own home, but there are quality of life advantages to renting, too. In the end, while it might not make much financial sense for us to buy, we'll do it anyway, simply because we love the house we're in the process of buying. Even that has its costs, as we're not taking as hard a line in the negotiations as we might otherwise, which will leave us paying more for the house and possibly having to do some renovations in the basement that the owner is unwilling to do.

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Postby Siobhan » Mon May 28, 2007 7:01 am

I wonder if all the rules about homeowning being a good investment are obsolete, more based on days past when people put down larger downpayments and wouldn't move as frequently as we do today. Because while, yes, houses are a giant hole of maintenance costs, being rid of a mortgage in 20 years would more than make up for that. But anecdotally at least, it seems like very few people pay off mortgages these days -- they either have to or choose to move, and inevitably end up buying up so that they're starting closer to scratch on their mortgage.

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Postby brad » Mon May 28, 2007 7:37 am

Siobhan wrote: Because while, yes, houses are a giant hole of maintenance costs, being rid of a mortgage in 20 years would more than make up for that.

I'm not even sure that's true. Once I'm rid of my mortgage and own my home, I suspect my annual expenses (property taxes, maintenance, insurance, etc.) will still exceed what I'm currently paying for rent (although I would of course have to project future rent hikes into the equation so it's not an entirely fair comparison; still, property taxes, maintenance, and insurance costs will go up as well so the relative difference should remain about the same). If home values go up then of course I'll benefit if I sell my home, but that's a gamble. Would it appreciate more in 20 years than if I had invested the money elsewhere? Who really depends on what happens to the market and the desirability of the neighborhood we're moving to.

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Postby squished18 » Mon May 28, 2007 8:47 am

One point to add about renting. An advantage of owning is stability. It is possible for the landlord to sell the property from under you. It is also possible the landloard will evict you to live in the property themselves. Choosing to move is one thing. Being forced to move to another thing altogether different.

I'm of the school that treating your primary residence as an investment does not generate the greatest returns. (As far as I know, even Donald Trump doesn't flip his own residence.) However, putting money into your primary residence so that you have stability and control over where you live can give you the ability to make better financial decisions because you can sleep better at night.

So I would advise: If the chances are high of you staying in the same city for ten years, buy a modest home. If you know you'll be moving in less than five years, rent. In the gray area? Go with what your gut tells you, as it likely won't make a huge difference either way.


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Postby tinyhands » Wed May 30, 2007 10:37 am

I bought my townhome when rates were just about at the bottom, so my mortgage is roughly half the going rate for a condo of the same size/quality/location as I have now. If I had to rent an apartment for what I currently pay, it would either be much smaller, much shabbier, or in a much less desirable location. I may not be getting rich by owning, but at least I'm not getting broken-into every couple of weeks and having to replace all my stuff. *knock wood*
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