A Guide To Owning or Renting Your Home

Owning versus renting your home is a longstanding and often passionate debate. The reasons for owning or renting differ according to financial calculations and your personal preferences.

Factors To Consider

If you seek to own a home, do you prefer stability, building equity, control over home and its responsibilities, and tax benefits? Will you enjoy a sense of pride in ownership? On the other hand, does flexibility and freedom appeal to you, not having to deal with the home’s repair and maintenance, freeing you to use savings to make investments, and not have to worry about declining home values?

I understand the allure of owning your home as I have had with our primary home. We continue to hold a second home which we may one day make our primary spot. I grew up in the Bronx in an apartment building for affordable housing. As a result, my family paid a relatively low stabilized rent. Owning our home as inspired by the American Dream was out of my family’s budget.

My husband, Craig, is a real estate attorney dealing with residential and commercial transactions. When I went to law school, I was fascinated by the real estate field and became an investor in commercial properties for a time.

Before we review the advantages and disadvantages of owning and renting your home, let’s address critical factors to consider in making this critical decision.

Housing Market Trends

When it is the right time for you to buy or rent, it may be worthwhile to be aware of the overall housing market, that is, home prices, interest rates, and mortgage rates in particular. US homeownership had grown from 45.6% in 1920 to 66.2% in 2000. Homeownership rates peaked in 2004 at 69.2% (in both April and October of that year), then retreating to 65.8% in 2020.

Generational Gap In Buying Homes

According to a 2019 Zillow report, the average age of the typical first-time homebuyer in the US is 34 years old. Since the Great Recession, millennials were initially slow to purchase their home as they grapple with high student debt and slower wage growth. However, millennials’ average mortgage debt in 3Q 2020 is $237,349, just below $247,567 held by Gen X according to Experian data.

A major consideration in timing a purchase is the level of mortgage rates. Generally, mortgage rates rise during periods of strong economic growth and decline during weak or recessionary periods. Mortgage rates have been historically low, with current rates for 30 years, the fixed rate at 3.564%, and 15 years the fixed rate at 2.615%.

By pursuing a home purchase, make sure your finances are in order. That means being debt-free and establishing or expanding your emergency fund. When we review the financial costs, you’ll better understand the need to have a solid financial condition.

Substantial Financial Differences Between Homebuying And Renting

Financial costs differ between purchasing a home and renting. Homebuyers’ substantial costs can be divided into one-time payments upfront and at the closing. Purchasers face required one-time upfront and closing costs in addition to the ongoing or recurring expenses.

The process of buying a home through closing may be overwhelming, but each step is well defined.

Upfront And Closing Costs

Homebuyers are usually surprised by the number of required payments to those professionals (home inspector, bank attorney, title closer, appraiser, broker, attorney) who are assisting in their purchase. There are also other costs associated with securing the mortgage and protecting the lenders, as they will effectively own 80% of your home. You will pay mortgage application fees, points, and origination.

Upfront Costs

 

Earnest Money

Earnest money can range from 1%-3% up to 10% of the home price, depending on the locale. This money is a consideration for the mutual acceptance of a deal with the seller. As a credit, this amount reduces the purchase price at the closing. If you default before the closing, the earnest money can be the measure of liquidated damages to the seller.

Home Inspection

A qualified inspector will need to inspect the home for damages.  An inspection can help you decide on a house to buy, but before you put money down. The fee amounts vary based on the type of home, square footage, and locale. It is an essential cost as you may find structural damage or disclose other issues can reduce the price you are willing to pay.

Appraisal fees

These fees are for an independent certified appraiser’s report. The report is essential to protect the bank’s  collateral exposure. They are paid directly to the bank after inspection but before the closing and in conjunction with the mortgage loan agreement.

Escrow Accounts

The escrow account is for the bank’s benefit and the attorney’s.

The attorney escrow account holds your down payment for the house. The bank’s escrow covers prepayments for property taxes on the homeowner’s behalf for up to six months. Additionally, the buyer will be paying a full year’s homeowners insurance premiums upfront and one-twelfth of the premium into escrow. Some borrowers,  if applicable, pay private mortgage insurance (PMI) premiums. PMI is required if the buyer is making a down payment of less than 20% of the home price preferred by the lender.

Closing Costs

The final part of your purchase involves several closing costs associated with formalizing the mortgage processing and concluding the transaction between buyer and seller. They include charges for the loan application, processing, and underwriting. The latter may amount to about 1% of the loan. So if you are borrowing $300,000, you will pay $3,000.

You will be paying for a title search and other title-related costs to ensure you are purchasing a home with “good title” free of fraud and any liens for unpaid taxes, etc. The title company collects a premium and receives recording fees.

You will also be paying an attorney for closing your deal and representing you as the buyer in most states. The attorney’s fee ranges from $750-$3,000 depending on the deal’s complexity and your locale.

Recurring or Ongoing Costs

Your ongoing monthly costs of buying a home are your mortgage payments, utilities, garbage, property taxes, and homeowner insurance. These are predictable or fixed costs.

If you are buying a house (rather than an apartment), maintenance, repair, painting, and appliances may vary depending on the house’s condition and age. The costs are often difficult to estimate and may depend on your DIY abilities. You will also have other expenses for lawn care and snow removal, which differ based on your geographic location.

Costs of Renting Your Home

Upfront costs are far less. Landlords usually require 1-2 months for a security deposit at the time of the lease signing. Some landlords will increase additional security or fees for any pets you have for potential damage to their property.

The landlord may require an application fee for administrative costs and a possible broker fee unless the landlord pays this. There may be a move-in fee depending on the type of home you are renting.

Recurring Rental Costs

Tenants are responsible for monthly rent, all utilities, and renters insurance. While the homeowner has homeowners insurance, that doesn’t cover your personal property, including your furniture, clothing, electronics, computers, jewelry, and anything of value to you or liability insurance. The landlord will require you to purchase renters insurance.

Landlords are required to provide you with at least 30-day notice in most states with an increase in the rent unless stated as part of a multi-year lease.

What Is Your Financial Situation?

Before going house-hunting, if you plan to make a purchase, it is a good idea to check your credit report for any errors or issues. You need to be aware of any errors that you should correct. You should know your credit score and what amount of mortgage you can afford. There are steps you can take to raise your credit score.

By the way, your credit report matters to your landlord also. A poor credit report could be a thumbs down on your ability to rent. If your credit score is fair, it may mean providing your landlord with more security. However, a poor credit score has far more of a negative impact on your ability to borrow.

MyFICO’s loan calculator is handy for estimating your APR, monthly loan payment, and total interest paid. For example, using a $300,000 loan your payments for 30 years and 15-year mortgages as of April 9, 2021, based upon your FICO score will be:

30 Year Mortgage

Credit Score                APR             Monthly Payment        Total Interest Paid

760-850                      2.764%                  $1,227                    $141,702

700-759                      2.986%                  $1,263                    $154,517

680-699                      3.163%                  $1,291                    $164,881

660-679                      3.377%                  $1,327                    $177,583

640-659                      3.807%                  $1,399                    $203,664

620-639                      4.353%                  $1,494                    $237,826

 

15 Year Mortgage

Credit Score                APR             Monthly Payment        Total Interest Paid

760-850                      2.107%                  $1,945                    $50,162

700-759                      2.329%                  $1,976                    $55,736

680-699                      2.506%                  $2,001                    $60,219

660-679                      2.72%                   $2,093                    $65,685

640-659                      3.15%                   $2,093                    $76,822

620-639                      3.696%                 $2,174                    $91,255

 

A Few Observations

Irrespective of your FICO Score, the lower the credit score, the higher your APR, monthly mortgage payment, and total interest paid.

Financial Implications For 30 Year versus 15 Year Mortgage

When comparing the different loan maturities on a $300,000 loan:

• The APR will be higher for the 30-year mortgage than 15 years, all else being the same.
• The monthly mortgage payments will be significantly higher for the 15-year mortgage, given the shorter period. If you can afford to pay the higher monthly amount, you are better off with the 15-year mortgage because you pay less in total interest.
•  Assuming you have a 720 credit score, the total home price, including total interest paid and down payment will be lower with a 15-year mortgage loan.
• The 30-year mortgage is much higher because you are paying interest on your loan longer, so the total home price or principal is $375,000 plus $154,517 equals $529,517.
• If you opt for a 15 year mortgage, your total home price or principal  is $375,000 ($300,000 loan + $75,000 down payment of 20%) + $55,776 in total interest equals $430,776 for principal and interest.

Advantages Of Buying Your Home

 

1. Building Equity

Paying your mortgage over time will result in building some equity in your home. You should be aware that your initial payments are predominantly for interest on your loan, especially if you have a 30-year mortgage and equity builds relatively slowly.

On the other hand, you will undoubtedly be owning your home much more quickly with a 15-year mortgage. A mortgage amortization calculator helps compare the principal and interest portions for the 15 and 30-year mortgages. Assume your loan begins in April 2021.

The comparison reveals that more than half of your first monthly payment goes to the principal than interest with the 15-year mortgage. However, only about a third of your payment goes to the principal with 30 years. The amount between principal and interest reaches parity until the year 2032, and equity rises slowly after that until the year 2050, when you satisfy the 30-year loan.

2. Your Home As An Appreciable Asset

Depending on your time frame, US new home median prices reflect appreciable growth. Median new home prices have risen from $17,200 in 1963 to $212,300 in 2011 according to the US Census of Housing. That is a 5.38% compounded annual growth rate. However, adjusted for inflation, the growth rate is 1.8%. On the other hand, inflation-adjusted monthly rent grew from $568 in 1960 to $934 in 2010, according to Apartment List Rentonomics. This 68% hike in rent is well ahead of the 18% rise in household income during the same period.

Your investment in your primary home essentially keeps pace with inflation rather than generating strong investment returns. When calculating returns you need to factor in the interest costs to the total price. That said, you are living in your home and hopefully enjoying a high quality of living which can be priceless for many.

There have broader differences in select markets across the US that exhibit stronger appreciation due to higher population growth, demand, and other factors.

Housing Bubble

The US housing bubble was particularly troubling for homeowners in the mid-2000s. Housing prices peaked in early 2006, then leveled off until record drops of 18% as reported by the S& P Case-Shiller index in October 2008.

While this drop was exceptional, it still provides a warning sign for those interested in purchasing their homes as loss in home values is real. However, some markets have recovered from the Great Recession and recent housing price trends seem more favorable.

3. HELOC As A Source of Funding

Once you have built some amount of equity and have paid your mortgage on time, you may be able to set up a home equity line of credit or HELOC. You can often get a loan more quickly and at lower rates because you are using your home equity as collateral. Part of these funds could go to building a new kitchen or expanding the house.

The HELOC, if not maxed out, can positively help your credit score. This is because the HELOC has increased the available amount of credit, lowering your utilization rate and improving your financial situation. Credit utilization accounts for 30% of your credit score. HELOC increases debt, so make sure you pay this loan on time and in full. To avoid a hit to your credit score, don’t close the HELOC unless you are too tempted to use the money or about to close on the house, as it will then lower the available credit.

4. Possibility of Rental Income

When you live in your primary residence, you don’t often think about renting out your property. However, your family may relocate for your firm for a couple of years, or your kids are moving out, and you want to travel more. You may decide to rent out your home or list it with Airbnb.

5. Stability In Owning Your Home

It is wonderful to raise your kids in one home, become part of the neighborhood and community. There is a certain calm feeling of not searching for a place to live and pack and unpack boxes. (Having just moved to a new home, I can share that I will be thrilled when our family settles in our home and the last box is gone.)

6. Tax Benefits After The Tax Law Changes

The 2017 tax law did impact some of the tax deductions enjoyed by homeowners. If you itemize your deductions on a joint filing, you still claim mortgage interest payments up to a $750,000 face value loan. Qualified loans include your mortgage, home equity loans, and HELOCs. This tax change is a reduction from $1,000,000 before the recent tax law. You can no longer deduct interest associated with home equity debt unless buying or improving your home.

Deductions for state and local taxes (known as the SALT deduction) and property taxes are capped at $10,000. This amount may be appropriate in Ohio but not in high-tax states like New York or California. This is a reduction from unrestricted amounts previously deducted. You can still deduct the proportionate interest associated with your apartment building’s mortgage if it is a co-operative.

Homestead Exemption

Certain states, like Florida, offer exemptions if you meet specific requirements. This exemption may protect a surviving spouse when the homestead spouse dies. A homestead exemption is a law that protects the value of a home from property taxes and creditors. Depending on the state, a property tax can get an exemption in the range of $25,000-$75,000 of a home’s assessed value from property taxes.

7. You Have Freedom To Do What You Want

Are you creative? Your home can be a good option for you. There may be some conformity required, but your wallet limits design and remodeling. You can do gardening and grow vegetables. Owning your pets is more manageable in your home. Your children can listen to loud music with fewer rules of noise after hours. Peace of mind can be precious for you and your family.

8. Sense of Pride In Ownership

For those who have rented for a long time. owning your home feels like an accomplishment. The land is a natural resource, and there is a good feeling of knowing you own the land where you walk and live.

Ask any refugee that has had their home taken away from them what a house meant to them. My mom was a refugee when she came to the US, having lost her family. Her home was taken away illegally and violently. While owning a home eluded her, she always considered owning a home away to wealth.

Disadvantages of Owning A Home

 

1. High Costs To Own

We addressed the one-time and recurring costs a homeowner has to realize, but it bears repeating. In particular, there are unforeseen events that require homeowners to do planning ahead of the purchase. Having an ample emergency fund is essential for all, but homeowners need to expand that fund to avoid borrowing unnecessarily.

Consider the age of the home and its condition when factoring in maintenance and repairs. Are you handy? We are not, and so we rely on a plethora of plumbers, electricians, and those who can help us around the house with shower breaking and leaky pipes. I keep wanting to spend time watching YouTube to pick up some tips but I am always afraid of starting a fire.

Our teens are handier but not always available given their schoolwork, friends, sports, video games, and sleeping late.

It may be worthwhile to watch the 1986 movie The Money Pit with Tom Hanks and Shelley Long. It left an indelible memory of what not to do with your house.

2. Lack of Flexibility

If you are adventurous, you may feel stuck in the same house and environment, especially as your friends may pick up and leave to try life in another place or country. You may want to sell your home and retire to another locale, but the local economy is weak.

We had next-door neighbors who experienced that predicament. They lived in Connecticut and had bought a house in Florida. The market had been terrible for the better part of a decade. They had to stay put in the colder climate they planned to avoid in their later years. They finally sold last year.

3. Your Home Has An Opportunity Cost

A home is usually the most significant asset you own. The mortgage, maintenance, repairs, and property taxes require a lot of capital that may be better invest in a diverse investment portfolio. Many people believe that when they sell their house, they will use the money for retirement. That is true, but there is no guarantee that you will be able to sell your property quickly or not be facing declining values.

Too much concentration on one asset is hazardous. You need to have investments in other assets but saving to invest in other vehicles is difficult when so much capital is in real estate.

One way to avoid this difficulty is don’t buy a house too big for you. The amount of space homeowners have been buying has dramatically increased since 1973. Specifically, median size homes have recently expanded to 2,467 square feet, up to 1,000 square feet. During that time, the average living space per person in the household has nearly doubled to 971 from 505. Do we need all that space and then have to furnish it too?

Advantages of Renting

 

1. Rental Costs Are Less

The lease agreement with the landlord provides your financial responsibilities, which are essentially predictable: monthly rent payments, utilities, lawn care, garbage disposal, and snow removal if applicable. There is a minimum of upfront fees. Finding an apartment may be harder in specific markets and more expensive based on demand.

2. Benefits of Ownership Without The Property Taxes

You may be fortunate to get the best of what property taxes pay for without having to pay these costs when you rent. Families are always willing to pay more money for a house to be located in a nice place with a great school district. Higher home prices and property taxes may put buying a home out of your range.

Our Recent Move To A Rental House

By renting, you can access the town’s beauty, infrastructures like transportation, town pool, and schools. These attributes are a big reason why we moved to a small town (from a big city)  to a house rental (from an owned apartment) and switched our kids from a private school to one of the best public schools in the state, if not the country.

Our son joined the football team, and our daughter is considering other sports not readily available at her previous school. It was a difficult decision, especially for me, having grown up in the city. Although it is early, it feels promising.

Renting may also help you get familiar with the area before purchasing and allow you to get your financials in order.

3. Free Of Maintenance And Repairs

Your landlord has primary responsibility for the care of the property. It is up to you to inform your landlord of the need for maintenance and care. For those not handy or not wanting to spend the money to fix things, renting can be ideal.  Usually, the landlord wants to use their folks (e.g., painters, electricians) for respective issues in the home.

4. Flexibility To Leave

At the end of the lease, you can leave the premises. Many people decide to move around and explore different areas or look for other jobs. You aren’t tied down, and as long as you make payments through the end of the lease, you are good to go. It is challenging to leave your own home as quickly as a tenant can.

Disadvantages of Renting

 

1. Higher Rent Or Sells Property

Your landlord can raise your rent with proper notice or sell the property. Renting has increased faster than household income has since 1960. Apartment List Rentonomics points out that inflation-adjusted rent rose 64% from $568 per month in 1960 to $934 in 2010, while household income grew only 18%.

Many homeowners turn to rent if they are unable to sell their property due to a poor market. Once the market turns, they may ultimately sell the home you are renting.

Markets vary, but in specific markets, there are fewer homes to rent.

2. No Equity Buildup or Tax Benefits

It is common for people to say that renting is throwing money away. Of course, this is not true as you are paying for the living space for some time. You have the freedom to find the best affordable apartment you can to live in an area you prefer.

You are not getting equity or tax benefits from your rent, but you are getting several advantages. You can divert your savings into other assets.

3. A Bad Landlord

It would be a drag if you rent an apartment from a bad landlord, but the good news it is not permanent. Before you rent, check out Yelp to see if there any red flags to know about your landlord. People are always willing to share their bad stories.

I recall some horrifying stories that painted their landlord as a reincarnation of Jack Torrance, played by Jack Nicholson in The Shining. Torrance was the caretaker at an isolated hotel.

If you are having trouble with your landlord, who is not providing services promised in the lease, there are legal actions to take.

4. No Upside From A Strong Housing Market

As a renter, you do not get the benefit of improving house values. It may feel bad when your friends are experiencing some growth in their home value, while you may be getting a notice from your landlord that they are getting ready to sell or raise the rent.

 

Final Thoughts

Hopefully, this guide provided you with good information to decide between buying or renting your home. Frankly, you can look at the calculations related to mortgage costs, building equity, home prices, square footage, but in the end, the choice is a personal one for you and your family.

If there is one point I would like to make, consider how your preferences line up with your long-term financial goals. Make sure that if you find your dream house, it is doesn’t break the bank. You don’t want to be too overladen with debt.  Remain disciplined in your spending and make saving a priority.

 

Thank you for reading! If you rent or own your home, would you kindly share your experiences with us? We always like to hear how you decided which shed light on a home decision.