I’m back from vacation and ready to rumble! It’s good to recharge and refuel. It’s also good to be back in front of the keyboard.
Maybe it’s the increase in mortgage rates, but lately, I’ve seen more commentary on the pros and cons of renting versus buying a home. I helped several clients run the numbers on these scenarios as a practitioner. Having spent some time working with this particular issue, I find most discussions lack nuance. Generally speaking, you have the “Rent is throwing money away” crowd on one side, and on the other, you have the “Dude, just run the numbers” group. Most of us probably live in the yawning chasm between those two extremes! Based on my experience, people get tripped up by several areas related to paying for a home: financial, behavioral, and social. I have personally fallen victim to several of these areas myself! Let’s dive in.
Financial
Probably the most straightforward is financial. Buying a home is a costly proposition that most people only do a handful of times. Unsurprisingly, they rely on rules of thumb rather than running deep financial analysis. I’ve built several models for clients to explore the tradeoff. It is not necessary to do it yourself; several good online calculators will help you do the modeling. I have recommended this model published by The New York Times. (A note on online calculators: if you use different ones, you may get slightly different answers. Each version has its calculations and assumptions, so they will not compare directly, but they should agree on a general direction for your decision.) Some things to consider in this analysis:
Is the mortgage payment in my budget? Remember to include the payment, interest, taxes, and insurance.
Can I afford maintenance and repair? No more calling the landlord when your toilet is clogged or your roof leaks. Roll up your sleeves or contact a service provider.
Will I treat my home as a money pit? HGTV has made us all crave constant upgrades to our homes—new appliances, landscaping, renovation. Many people can’t resist constantly pouring new money into their homes. If this is your situation, you should explicitly budget for upgrades. I think this is an area many people miss and a large chunk of future costs. You also can’t assume you will recoup this money when selling.
A house is a big purchase, and you should run the numbers. I worked and lived in California, and many people were surprised by the rent versus buy analysis results. Frequently, it showed renting was the better financial decision. It is a great baseline to ensure you make a sound decision.
Behavioral
After running a rent versus buy analysis, clients frequently chose to buy anyway. The reasons are varied across individuals and families. One big reason was discipline. It looks like this:
Buying requires a downpayment. There is often a concerted effort by clients to scrimp and save. The idea that they might save up 10’s or 100’s of thousands of dollars and then use that to invest rather than buy a house is a non-starter for some people. Most rent versus buy analysis assumes that you invest the lump sum down payment in some other asset (stocks) and earn a return over time. When they think deeply about it, many clients will not do this. They will either not save the money if they aren’t buying a house or will be too tempted by the after-tax savings to leave it invested for an extended period.
Renting requires savings. Like the above, renting requires “saving the difference” over time. Most models assume that any monthly difference between mortgage and rent is saved - for like 20 or 30 years. Again, many people faced with this thought balk at the idea that they could accumulate a sizable investment portfolio instead of a house and leave it undisturbed for decades. The temptation to raid it for a Safari to Africa or a new car would be too strong.
Other non-financial behavioral issues interfere as well. I worked in California, and many clients were frustrated with the rental market, which can be challenging. Renting will be suitable if you are comfortable in a condo or apartment block (often with great amenities). The proposition is very different if you are a young family looking to rent a house. I had a prospective client whose family was forced to move twice in three years from homes they rented. They were desperate to buy a house to control their future. Additionally, people may strongly desire to live in certain neighborhoods due to schools or proximity to family. Often, local markets have significant tradeoffs in the housing stock available to rent or buy.
Many people who are a proponent of renting will shrug off these behavioral concerns. The numbers are powerful enough for them to remain disciplined. I observed many ordinary, well-intentioned, intelligent people come to the opposite conclusion. When they thought deeply about the saving and investing commitment required to make the rental analysis work in their favor, they decided to buy. Although it might not be financially optimal, people use their home partially as a forced savings vehicle. They may not be able to commit to saving regularly, but they will pay their mortgage on time.
Social
Many social norms push people towards owning their own home. Some people are nostalgic about their childhood and have fond memories of growing up in a family house. Some people are handy and relish the idea of home improvement. I talked with one person who said they needed to buy a house because he promised his father-in-law to take care of his daughter. The father-in-law considered purchasing a home as the “minimum” to take care of his daughter. Also, people are primed to help with home ownership: parents gift their children money for a downpayment, relatives help with upkeep and repairs, and other nudges, large or small, that help push towards home ownership. Right or wrong, we should admit that these forces exist, whatever decision we make.
I am a proponent of running the numbers on a home purchase. It will help make an informed decision. However, I think there are many considerations to review before landing on your final decision.
This is a great article. So many people think is absolutes with this topic and ignore the psychological side of the equation as it's so nuanced. I've done both and can say that neither is better or worse. We rode a housing boom and sold a starter home, put the money in the money to work in the stock market, and eventually purchased a home in 2020.
You have outlined some great perspectives!!