"You Don't Have to" Series, Finance

You Don’t Have to: Buy a House

I had a eye-opening financial experience at the bank a few weeks ago. This encounter led me to ask the question:

Is a having a mortgage financially superior to renting for life?

Here’s the story: I went to see a financial advisor about getting a short-term loan for a project. Soon after this discussion, we got talking about home ownership. “Have you thought about getting in to the real-estate market?” she asked. I told her I’m happy renting for the time being. She replied, “well you’re currently just losing money to rent! I highly recommend getting in to the market.” All the cool people were in this market, apparently.

I said “sounds great, but I don’t have enough to put 20% down on the house I’d want to buy right now. I want to save up enough to avoid that tax you pay with a down payment less than 20%.” She told me, “well, it’s best to get in to the market as soon as you can, and really, the extra tax paid compared to the financial benefits of getting in right away is not a big deal in the long run.”

She then told me, that with the savings I have, I could actually put down just 5-10%, and with our salaries we’d likely be “pre-qualified” (a dangerous phrase, in my opinion) for a larger mortgage than I initially thought!

AHH!

Now I’m no financial expert, but I know one thing: a house is no miracle financial investment, and the fact I was told that renting was an inferior financial path, and that I should go for a larger mortgage with a smaller down payment made the tiny office fill up with red flags. Are all these financial advisors really telling young couples my age to not save first and put down as little as possible as soon as they can on as big of a mortgage as they ‘qualify’ for? This worries me.

Now keep in mind, buying a house is about a lot more than just money. It’s a core cultural value that we hold, as it represents your physical place in the world- a safe shelter that you can raise a family in and alter as you please without the permission of a landlord. But a house solely as a means of a retirement investment or creating equity is not such a black-and-white clear winner.

The common reason I hear for ditching the landlord and buying property is, “I’m just burning my money paying rent, I’d rather be paying it to myself!” Sure, but keep a few things in mind when you say this:

– A mortgage of $100,000 amortized over 25 years at 5% interest will cost the borrower about $214,000 by the time it’s paid off: so you pay more than the entire house’s value to the bank just in interest!

– As your primary residence where you live, you don’t make any money until you sell it. The only thing that happens if your house goes up 600% in value is you pay more property tax.

– Remember it’s not just a mortgage: there’s tax, utility bills, repairs, renovations, and strata fees if you’re in a condo. This can add several thousand dollars per year to your total annual cost.

So that being said, even with all these costs surely it still must be better than sending money to your landlord’s pocket, right? Actually, if you crunch the numbers, renting can be sometimes be the superior financial investment, even after the other guy has paid off the house in 25 years.  In the end, shelter always costs you money. There’s no way around it; it will either go to the bank and to taxes, or it’ll go to a landlord.

So there’s absolutely nothing financially inferior with renting your entire life, if it suits your lifestyle. The housing industry and banks have a vested interest in propagating this myth that renting is a financially unwise way to live. That’s why you shouldn’t always take a financial advisor’s advice at face value: they want you to have a mortgage.

And of course there’s also absolutely nothing wrong with owning a house. It suits millions of people just fine. And renting out part of your house or owning a second income property can be very lucrative. Just ensure you do your due-diligence and remember all the other costs on top of a mortgage.

Not convinced about renting as a solid financial option? Here’s a little test case if you don’t mind some quick number crunching:

You and I both decide to spend $2,500 per month on living expenses. I decide to rent, and you get a mortgage, and we agree to meet up in 25 years to see who’s better off.

You Buy A House

Let’s say your monthly costs are: mortgage $2,000, property tax $300, utilities $100, repairs $100. This uses up your $2,500 limit, and gets you a $350,000 mortgage. Here’s the chart of your 25-year mortgage adventure:

Screen Shot 2016-03-13 at 9.18.47 PM

Now 25 years from now, you’re house has risen to a value of $1.2 million! (assuming historical real-estate growth). Woohoo!!!  However, you’ve spent $610,700 on interest and the principle, plus a total of $150,000 in utilities, property tax and repairs. You sell the house and head over to my place to tell me about your grand total of $439,300 net profit.

I Rent for My Entire Life

I ended up finding a rental that’s roughly the same as your house for $1,900 per month (including utilities). That leaves me with an extra $600 per month, which I stick in some stocks and funds. With the historical growth rate of 6.5%, after 25 years and the glorious phenomenon of compound interest, I have $451,700 net profit.

The renter takes the win in this (very specific and highly variable) case.

But then you say: wait, what about after 25 years, I don’t sell the house, leaving me free and fancy livin’, while the poor renter still has to fork out rent! Well don’t forget, you still are paying for tax, utilities and repairs each month, and second, remember that $451,700 in my pocket? With that money invested in funds with a 3% dividend yield, that provides me with $1,370 per month that I can put towards rent. In the end we come out pretty much dead square, even after you’ve paid off your mortgage.

This is one very specific case, and with just the slightest change in one of many variables, either could come out on top. The result really depends on how much less your rent is than a mortgage for an equivalent home.

Regardless, the point I’m trying to make is that in certain cases, renting can be a superior financial decision (so don’t rule it out as some inferior financial decision), and buying a house to live in should not be as much a financial plan as it is a personal lifestyle choice. The non-financial pros and cons of home ownership vs. renting should be carefully considered before entering a mortgage.

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