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Should You Buy or Rent Your Home?

Updated on April 4, 2014

Buying versus Renting Your Home

In The UK, like in America, almost everyone aspires to own a house (or maybe a flat) This may date back to the efforts of the previous Tory government to make everyone a homeowner or ancient property-ownership based voting rights, but anyone who does rent a property will eventually get fed-up with being told of the financial stupidity of their actions. In this article I hope to address some of these financial myths and misunderstandings and show how to work out when is a good time to buy or rent. I shall also demonstrate the actual mathematics behind the pros and cons of renting versus buying a property. Over the long term it is rarely cheaper to rent than to buy (how else would the landlord make a profit) but over short durations and at certain times in the market cycle it can be cheaper and certainly less risky.

Disclaimer: Information in this and other linked articles is unregulated and for general information only and is not intended to be relied upon in making specific investment decisions. Appropriate independent advice should be obtained before making any such decision.

Myths and Sayings

"Rent is Dead Money"

i.e. The rent money just disappears and you get nothing for it, whereas with a mortgage...

In fact, rent buys you accommodation and a service (repairs, maintenance, buildings insurance and possibly other services in the case of some apartments, which you would otherwise have to pay for if you purchased the property) You are also paying someone else to take the risk of homeownership.

Mortgage however really is dead money - it even means that in French (Mort - gage. O.K. that's a bad translation, but it means dead pledge in old French) A mortgage is however rented money. The payments are to borrow the money to pay for some portion of the property. The risk is then taken by the homeowner, not the landlord.

"Renting is making a rich landlord richer"

You certainly might make the landlord (possibly an entrepreneur or small business person) richer, but (s)he also is taking the risk and providing a service. A mortgage is making a rich banker, mortgage broker, investment banker and a few other people richer and you are taking most of the risk.

"House Prices Always Go Up"

As we have seen recently that isn't true. In fact property prices move in long cycles oscillating about an average multiple of earnings and the cycle is closely linked to the credit cycle. An average house price of five times average earnings would be high and a value of two would be low. Inflation is usually positive and that is what makes house values appear to always increase.

Now for the maths

When buying a property as an investment (e.g. a "Buy to Let") the profitability versus risk is very important. When buying a home for yourself and family the profit or loss versus renting is not the most important consideration, but the potential risk may be. There is far more to consider that just is the rent more than the mortgage.

What are the other costs and risks?

Deposit: How much will this cost in lost interest?

Mortgage: What is the best rate you can get and how much deposit do you need to get a good deal. What is the arrangement fee?

Stamp Duty:

0% for properties under £175,000

1% for £175,000 to £250,000

3% for £250,000 to £500,000

4% for £500,000 to £1 million

5% for £1 million to £2 million

7% for £2 million and above (unless you buy through a company in which case it is 15%)

Solicitors' fees: Extra costs incurred when purchasing the property

Service Charge: Serviced apartments may have an additional fee which will be included in the rent

Maintenance and repairs: What repairs or renovation needs to be done and what will the ongoing costs be?

Risks

Being forced to move home: Loss of job, illness, relationship breakup etc.

Forced selling of a property can result in having to sell at a low point in the market and therefore incurring a big unexpected loss. When renting this is unlikely to be such a big cost apart from possible loss of a few months rent.

See below for some examples for different scenarios

Scenario Number One: Healthy house-price growth

This example is for a half million pound apartment in London where prices are quite high, but rents surprisingly low. I have assumed a 6% house price growth (i.e. way above inflation) an average mortgage of 5% and a 7% return on the money not used for deposit (i.e. taking some risk, such as a stock market investment, to mirror the risk of home ownership)

House Price = £500,000

Deposit 25% = £ 125,000

Mortgage = £ 375,000

Mortgage Cost = 5% or £ 18,750 per year

Stamp Duty = 4% or £ 20,000

Service Charge= 1% or £ 5,000

Maintenance = 1% or £ 5,000

From the spreadsheet above you can see that despite healthy house-price growth of 6% per year, it actually takes 4 years to break-even versus renting and it has still cost £10K a year.

Scenario Number Two: House Prices Stay the Same

The same property, but with zero house-price growth.

The rental situation is the same, but the propery ownership scenario is very bad: a £192k loss.

Reader Feedback: Buy versus Rent?

Buy versus Rent?

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Submit a Comment

  • anonymous 4 years ago

    I think it depends on your circumstances. If you wish to move around a lot or have no choice with say your job, then renting makes more sense. However always think of renting as throwing money away if could be used to pay off a mortgage.

  • WriterJanis2 5 years ago

    If you buy, most likely you can get your investment back.

  • tycho13 6 years ago

    I think it will be better in the next few years to buy houses and rent out to other people :D

    I just made my first ever Squidoo lens, also on the property market, come by and take a peep if you have a minute...

  • MargoPArrowsmith 6 years ago

    Great charts! I really liked the 'rent money isn't dead money' that was interesting.

    One thing though for the US, we get the interest paid on the mortgage deduced from income taxes. That make a big difference especially in the first 10 years.

  • KimGiancaterino 7 years ago

    I own two houses in California, but rented for many years and liked not having to worry about fixing things all the time.

  • KimGiancaterino 7 years ago

    I own two houses in California, but rented for many years and liked not haiving to worry about fixing things all the time.

or Rent?

Submit a Comment

  • rentchase 4 years ago

    have you tried getting into a website named www.rentchase.com may be your point of view may change.

  • ForeclosureDeals 5 years ago

    For those looking to take the safe route until the housing market picks back up, renting is definitely a better alternative according to an infographic specifying prices of renting vs. buying across the country.

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  • Andy 7 years ago from London, England

    I think for the next few years it will be financially better to rent rather than buy

Scenario Three: Falling House Prices

Now the same scenario with a 6% fall in house-prices.

Obviously this is an extreme scenario, but a real one for the current state of the UK house market and does demonstrate that sometimes, when there is a possibility of house price falls, the potential risks of owning property can outweigh the joy of ownership.

I couldn't add an interactive excel spreadsheet here, but if you want to model your own situation it is very simple to do, using a spreadsheet similar to the above (calculate each of the extra costs of home-ownership and add them together and subtract the house-price gain then compare with the rent of a similar property minus the profit accumulated on the deposit cash), or checkout the microsoft excel books listed below or this Excel Article...

What house-price growth rate do you need to break even?

Some more Maths

Most articles on the subject of buying versus renting concentrate on just the mortgage rate versus the rental cost, but that is missing a lot of the cost and risks. Here is a more thorough analysis of which is cheaper, renting or buying your home:

Cost of Renting (R) = Time in Rented accommodation x Rent

where Rent = Rental Percentage (r) x House value (H)

R = trH

Cost of Buying (P) = Stamp-Duty (i.e. tax) + other one off costs + Time in accommodation x (House value x mortgage rate + other on going costs) - increase in value of property

P = H(S + t(Mm0 + Dd + m1 - g))

where

S = Stamp Duty Rate + other initial costs (as a %)

g = growth-rate (%)

m0 = mortgage rate

M = Mortgage percentage

D = Deposit percentage i.e. 1 - M

d = return on deposit (i.e. lost earnings from having spent your deposit)

m1 = percentage maintenance and other on-going costs

So, to break-even i.e. for renting and buying to be the same cost if d = m0 (a reasonable assumption since the deposit money should be invested in a higher risk and higher return asset than cash for an reasonable risk comparison) or for a 100% mortgage:

trH = H(S + t(m0 + m1 - g))

g = S/t + m1 + m0 - r

or growth rate required to break even when buying a property versus renting is the mortgage rate + maintenance rate (service charges in a flat + other costs) - rental rate + (Stamp-duty and other one-off costs) / time in property

For expensive London properties S = about 5%, m1 = 1% or more and at time of writing m0 = 5% (or significantly more if you assume a large loss of income on the deposit or a 100% mortgage) So for a short term let of 2 years

required growth rate to break even = 2.5% + 1% + 5% - 2% = 6.5% minimum

So a growth of significantly more than 6.5% would be required to compensate for the risk of ownership e.g. 10%

Add to that the fact that if the house price growth rate were to rise at 10% a year for any significant duration then the inflation rate would be high causing the interest rate to have to rise (i.e. the required growth rate to break even would increase)

Now for an example at the other end of the scale: inexpensive properties for which S = about 1.5% (no stamp-duty below £125,000), m1 = 2% or more and at time of writing m0 = 7% (assuming a near 100% mortgage), but rent is comparatively higher percentage of the value of the property (e.g. 5%) So for a short term let of 2 years

required growth rate to break even = 0.75% + 2% + 7% - 5% = 4.75% minimum

This may seem quite low, but house-prices have only beaten inflation by about 1% a year averaged over the last 70 years and a 7% growth rate would mean house-prices double every decade or approximately grow by 25,000% in a lifetime (i.e. growth rates consistently more than 1% above inflation are impossible and after periods of above inflation growth there would need to be a period of below inflationary growth)

Money

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    • profile image

      dealnation 4 years ago

      Good compilation of info!

    • sarahrk lm profile image

      sarahrk lm 5 years ago

      I have been a home owner and a landlord. And as a single woman, it will say it is not easy. I am now a renter and feel much better knowing that I don't have to worry about fixing anything. I think if you are young and have a family,. buying is great. But when you get older and are alone, rent is the only way to go.

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    • hsschulte profile image

      hsschulte 6 years ago

      Twenty years ago, as a college student, I recall the professors forecasting the future. "People will rent, not own, live in smaller spaces, and give up the commute to be closer to a wide range of amenities." It certainly seems to be playing out as they said. There are many days I'd certainly like to give up ownership and let someone else mow my yard of fix my drain. =)

    • MargoPArrowsmith profile image

      MargoPArrowsmith 6 years ago

      Very superficial, but I rented between my two houses. (I sold at the top of the market and bought again after it went down, amazingly enough) and I had to live 15 months with white walls !UGH!!! That's a reason to not rent.

    • MargoPArrowsmith profile image

      MargoPArrowsmith 6 years ago

      Brings a lot of food for thought!

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      KimGiancaterino 7 years ago

      Very nice lens... It's good to be armed with facts like this when making a big decision about home ownership. Blessed by a Squid Angel.

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      Author

      Andy 7 years ago from London, England

      @ZenandChic: Very true. I should add some more info about that, but the calculations above assumes that the availability of credit is reflected in the interest rate used i.e. if the credit rating is low and/or the deposit/down-payment is insufficient the bank will charge you a lot higher interest rate (or not lend at all) Generally if the bank doesn't want to lend it becomes far more expensive to buy than to rent. As the old saying goes: In order for the bank to lend you money you have to first prove that you don't need it.

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      Cynthia Sylvestermouse 7 years ago from United States

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      Patricia 7 years ago

      You need good credit and a down payment to buy a house so it is not just a matter of rent or buy.