MONEY MATTERS
Does It Still Makes Sense To Buy Versus Rent?
By Gene Coppa
Based on the most recent U.S. Census Bureau numbers I can find, currently 1/3 of all families rent. Those numbers increase dramatically if you look at large cities. For instance, for New York and Los Angeles, fully 2/3 of all families rent apartments or homes. Those numbers are based on census polls from 2008 and 2009. Based on the trends of foreclosures and defaults, it is very likely that those numbers will rise considerably when based on 2010 data. So does this mean it is a good time to buy or a good time to rent? I would also like to point out a recent trend in the housing data which shows homeowners who are underwater in the mortgages, that is owe more on their mortgage than their houses are worth, allowing banks to foreclose on their homes with the intention of renting a home or an apartment for much less than their prior mortgage. Many times, these previous homeowners are renting homes that are larger, in better neighborhoods or closer to their work at substantially less than their prior mortgage payment.
Although I am sure this is a tempting option for all of us who own houses, the reality of these choices is that the banks have to accept these losses, which ultimately has caused the burden of those losses to be spread out among all taxpayers over the last several years. Not necessarily just from the bail-outs, but from the impact of the housing market on the overall economy. Although I understand that many have decided to make this choice, if you are considering a similar choice, please take into consideration the impact of your decision on all taxpayers and the generations to come.
One other comment to make on this subject is that the rental market has changed to allow for recently foreclosed prior homeowners to still rent very nice properties. Because of the sheer numbers of foreclosures and defaults, landlords and rental agencies have loosened their rental guidelines when addressing those who have had a foreclosure or default.
But if you have not just been foreclosed upon, or if you don’t owe more than your house is worth, is renting or purchasing a better option? Before talking about purchasing a house, it’s important to note two things: First—and this is extremely important—the housing market is localized, which means that whatever is happening in New York is not influencing the home prices in your city or town. So the outlook in your hometown may be different than another city across the state or on the other side of the country. Second, home prices are tied to employment. For example, if someone feels like their job is in jeopardy, it might be enough to stop them from making a move. So, if your local job market is feeling a pinch, the home prices in your area may be down as well.
But with all those factors under consideration, it still makes sense to buy instead of rent, especially when you realize that the when the rental market increases in renters, rents will go up. With fewer purchasers in the market today compared to the heydays of housing, as we have all seen, housing prices are at very favorable levels. In fact, renting may be costing you a bundle compared to buying a new property.
Let’s look at an example… If you are paying rent at $1,500 per month and your landlord increases your payment by 5% each year, which could be very modest given an increasing rental market, you would pay about $100,000 over a 5-year period just in rent. After spending $100,000 on rent during this period, you have no equity in the house, you have no extra security deposit for another rental and you have accumulated no financial benefit.
In addition, most renters tend to spend some money improving the rental they are living in, whether that includes plants you plant in the garden or other improvements. It’s not uncommon for renters to freshen up the paint, install new light fixtures or even install new flooring. But after all your efforts and labor, the benefit of those improvement belong to the landlord, not to you. With convenient down payment options still available for qualified buyers, affordable home prices and low interest rates, the very same money could have been used towards home ownership.
Even using a standard 30-year fixed program, a mortgage of $300,000 could be obtained with a total monthly mortgage payment—including property taxes and insurance— of around $2,200. If you are in the 25% tax bracket, which most of you who can afford a $300,000 mortgage are, your $2,200 monthly payment is roughly the equivalent of the $1,500 you would otherwise be spending on rent when you take into account the tax benefits of home ownership. And the benefits of home ownership are quite considerable. Because the mortgage is being paid down each month, equity is being built even assuming that home prices stay level over the next five years. Although some economists still believe that housing may encounter a “double-dip” recession where home prices go down again because of a poor economy and negative job growth, most still believe that home prices will be at least flat and more likely higher in five years. However, even if home prices stay level over that period, after 5-years, the $300,000 mortgage could be reduced to $279,000, adding $21,000 to your net worth. If home prices saw a 1% rise per year over that period, which is very possible even in the more grim of outlooks, the value of your $300,000 home in five years would be over $315,000 which would bring your net worth up by a total of $36,000 with your mortgage pay-down.
But if laying out the initial increase in monthly payment and having to wait for your tax benefit to show up next April is a tough nut to crack, the IRS allows for other methods of getting your money up front. Instead of waiting to file for the tax benefits derived from your new home purchase, you can simply adjust the amount of your withholding now to increase the amount you take home on your payroll check. This allows you to have less tax withheld from each paycheck so you can handle the new mortgage payment more comfortably throughout the year. In essence, you are taking your tax refund as you go instead of letting Uncle Sam hold it all year, interest free. If you choose to take this approach, please contact a professional tax advisor to determine the proper amount of withholding for your particular situation.
You can also visit www.irs.gov and use the IRS withholding calculator to get an idea of your withholdings before speaking with a tax professional. This very handy tool can quickly show you the impact that a change in withholding will do to your net paycheck. Remember to balance this with the expected refund and it is always a good idea to check with your tax advisor.
Don’t fall victim to the national headline hype. Talk to a professional who understands your local market. And remember, buying a home is a big step, but it is almost always one in the right direction; especially now when home prices are at a multi-year low and interest rates are an historic low.
ABOUT THE AUTHORS: Gene Coppa is the CEO of The Financial Firm, Inc., a real estate financing company. For information on this article, or with other questions, contact Coppa at 1-800-390-0809, or (805) 654-0809, or e-mail: GCoppa@tffmtg.com, or log onto the website at www.tffmtg.com.