The American Dream is dead.
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Until recently, Americans believed that as long as they worked hard, they could own a home, put their children through college, secure retirement income and have upward mobility – all at the same time. All the had to do is work hard. However…since the Great Recession, the country as a whole is starting to grow pretty disillusioned.
A survey conducted by the American Institute of CPAs reports that only 11% of the adults surveyed considered homeownership as the top indicator of financial success.
The good news is that owning a home is probably not the best decision you can make financially. It’s very common to hear the phrase “I’m renting at the moment. It sucks. I’m flushing my money away and not building any equity,” but here are a few reasons why renting may be better for you than buying a house:
1) There are tons of hidden costs to owning a home
A house is kind of like a car – in that there will always be ongoing repairs and maintenance costs associated with the purchase. When you buy a house, you own the property. You’re responsible for it, and that responsibility means spending money on repair, redecorations, or remodelling.
Cost of ownership is often not taken into account, but those leaky pipes aren’t going to fix themselves. Apart from this, homeowners also have to pay yearly property taxes and purchase home owner’s insurance. Fun, isn’t it?
In fact, some home owners find that it will cost them $300 a month in maintenance costs alone over their lifetime. Yikes.
Buy a home if you like, just don’t be under any illusions. An investment that costs a ton of money and then requires layers of fees and maintenance costs that never go away over its lifetime is kind of a terrible investment.
2) Your landlord is subsidizing your rent
When you rent, you may not realize it, but you’re already ahead of the game. Instead of buying an expensive home, where you write an $80,000 check (your down payment) that becomes illiquid the day you move in, your landlord is in charge of all maintenance, taxes and so on.
In many cases, the monthly cost of renting is lower than the cost of owning a home of similar size and quality. Additionally, renters don’t pay property taxes, homeowner’s insurance and maintenance costs.
If the pipes freeze, your landlord will take care of it. If there’s a flood or an earthquake, your landlord takes care of it.
The value of peace of mind, in itself, is worth a lot – but consider next that your landlord is essentially subsidizing your rent by paying for insurance, maintenance etc. out of his or her own pocket. Some people say that these costs are baked into the monthly rent, but many times they really aren’t. A landlord might either not include it, or spread the total costs among many tenants.
3) You have an easy target to beat
If you’re just looking to beat the return on investment on owning a home, then that’s a super easy task.
Everyone says owning a house is an investment, but that statement is hard to come to terms with. Over the last 100 years, the long-term trend for housing prices is a horizontal line (meaning there is no change and that prices have been flat for that entire period).
There have been ups and downs, of course. If you bought a home in 1999 and sold it before the great recession in 2008, then you would have made off like a bandit – but that’s a case of perfect timing. As we know with the stock market, it’s a fool’s errand to try and time the market.
Over the very long-term, the housing prices increased an average of 3.1% a year.
That sounds good until you realize that inflation increased an average 3.0% a year in the same period.
That means the average annual housing price increase is a magisterial 0.1% per year. This doesn’t take into account the cost of ownership. No matter how good you are with your hands or how many plumber friends you have, this means you’re losing money on your “investment”.
A negative return sounds like a pretty easy benchmark to beat.
If you’re currently renting and want to own a home, then start by shopping around. Calculate what your all-in monthly cost would be and then take the difference between your rent and what you would pay to own a home and invest it prudently in the stock market. Throw in the big lump-sum you would have had to set aside for a down payment and this investment is guaranteed to out-perform an “investment” in a home.
There are more reasons why renting and investing is better than owning and buying. Renting gives you way more freedom and flexibility than home owning. For example, someone who rents can move to a different part of the country if the job market is weak where they are.
Look, people own homes for reasons other than making money. We know. They like the aspirational aspect of it or the idea that they actually “own” something. People who own homes will forever argue that home ownership is the way to go. But…they’re biased. If you just spent 80% of all the money you’d ever had on one item, you’d be loath to admit it was a bad decision too.
How to Actually Make Money in Housing
Besides – if housing is such a good investment then there are other ways to take advantage. Just buy an ETF that follows the housing market. You don’t have to put a down payment on an ETF and it’s far easier to sell out of an ETF than it is to sell a house.
The people who make money in housing are banks, real estate agents, and people who flip homes: buying cheap, fixing them up (often with their own labor to save money) and then selling high. Finally, there are companies who own and develop properties and investment firms, whose only job is to analyze the housing market for opportunities. Everyone else is just slightly deluded.
The Winner: RENTING!!!
Depending on your stage of life, buying is not always the best option. In this case, renting is a more practical option for someone who not in the financial position to buy their own place.
In terms of practicality and profitability, renting is the clear winner, although it isn’t as obvious at first given all the hype about the supposed merits of buying a home. To summarize, the 3 reasons why renting is better than buying a home are hidden costs, subsidies and the actual returns on investment in owning a home is way less than what many people believe it to be.
Owning a home entails many hidden costs, mostly maintenance and repairs. When renting, you only worry about paying rent because it’s the landlord’s responsibility to take care of the regular maintenance and repairs of the house.
When you rent instead of buy a home, the landlord technically subsidizes your rental costs. Why? Considering that in many cases the cost of renting a home is less than the cost of owning one of a similar size and quality. Additionally, because the landlord is responsible for the maintenance, upkeep and taxes of the property, he or she is paying a great chunk of the cost of your home.
And after much scrutiny and evaluation of other investment options, you’ll find that financially and practically speaking, renting a home can be more rewarding. You can invest the money you’re obligated to pay as down payment when buying a home in other financial securities. This can more than offset the opportunity cost of not buying a home, especially if you consider the average annual increase in prices of homes and the average annual inflation rate.
Renting doesn’t seem so bad now, does it?
Still not sure if its better to rent or buy? Learn more about how a mortgage works in our course Paying For Your Home