Mortgage demand has also fallen to a 27-year low, and the housing shortage is continually getting worse. So that begs the question, with today’s prices, is it cheaper to rent vs buy? Well, to answer that, we’re going into the trenches and looking up the true cost of ownership throughout each option across the United States.
Is it better to rent vs buy a house in US
There’s a general mindset that renting is throwing away money. I think most people, on the surface, compare the basic cost of a mortgage, compare it with that of renting vs owning, and immediately think that’s it. Owning a home is more expensive and renting is bad. But as you’re about to see, that’s only partially accurate.
See, when you buy a home, you’re first going to have to consider your down payment. Now, even though some companies like Rocket Mortgage or Zillow offer options with payments as low as 1% down, in most situations, lenders require a deposit anywhere between 10 to 20% of the purchase price to get the loan, which usually amounts to tens of thousands of dollars. Second, you also have to consider your mortgage interest rate. This is going to be your cost of borrowing money.
This means every year, 7% of your mortgage balance is being eaten away into the abyss of monetary policy. And it adds up, as you’re about to see. That’s because, third, if you put less than 20% down on a property, in a lot of cases, you’re also going to be responsible for PMI.
The cost of this varies depending on your lender, but it usually ranges anywhere between half a percent to 2% of your mortgage balance every single year. From there though, fourth, we also have property taxes. In terms of how much this adds up to, it could be as low as 0.3% of the home’s value if you’re in Hawaii, to as high as 2.5% if you’re in New Jersey, which, again, usually adds another several thousand dollars on top of your existing payments. After that, though, if you thought we were done, nope, because you then have insurance.
According to Bankrate, the average homeowner pays about $1,428 a year on a $250,000 home. But when it’s found that 66% of homes are said to be underinsured, expect that you’ll pay more like $2,200 a year for the proper coverage. That’s because almost everything in your home has a lifespan. For example, your roof will need to be replaced every 20 years at the cost of about $12,000.
Tiles will break. Garbage disposals will have to be replaced every month. That was a joke. But over the long term, it’s recommended that you budget anywhere between 1% to 2% of your property’s value every year for repairs that will eventually come up. So, with all of that information, here’s how much it’ll actually cost you to own the average home here in the United States.
At 10% down, that means you’d be coming out of pocket $40,000. You’d then be receiving a loan for $360,000, which, at a 7% interest rate, brings your monthly payment to roughly $2,400 a month. If you pay PMI on that, you’re then responsible for another $150 a month on top of that, on the low end. From there, you’re also going to have property taxes, which, at an average of 1.15%, comes to an additional $383 a month. Insurance is also likely to run you another $200 a month.
And if you spend another 1% of the property’s value every year on repairs and maintenance, that’s an additional $330 a month. This brings your total out-of-pocket cost for the average $400,000 home in the United States to $3,463 a month with $40,000 down. However, if you think it stops there, oh no, it’s just the very beginning.
And in the first year, that amounts to a $3,656 savings, or $304 a month. You’re also able to deduct the mortgage interest that you pay against your income up to the first $750,000 of a loan. Although doing this makes you choose between the standard deduction and the itemized deduction, the true net cost of savings is more like $2,500 a year or more like $204 a month.
But since this also applies to income and only 30% of Americans even use it, we’re just going to be excluding this from the numbers since it’s going to make a small difference. Anyway, at $3,463 a month, once you account for net tax savings and mortgage equity, you’re left with a payment that’s more like $2,955 a month, which seems a lot more reasonable, except we’re still not done yet.
Since you put $40,000 down, you also have to account for the opportunity cost of that money since you’re tying up $40,000 in a property that otherwise could have been invested elsewhere. At an average of a 6% opportunity cost, that’s $200 a month in investment income that you’re spending for the sake of buying a property. That means when all is said and done, the true cost of owning this home, when accounting for mortgage equity, tax savings, and opportunity cost, is $3,155 a month.
But since everything else, like property taxes, insurance, labor, repairs, and maintenance, also tends to go up in price alongside it, let’s assume the number is that your home will go up in value on the average net in your pocket by 1% every year, or for purposes of this calculation, $330 a month. This means the real cost of owning a $400,000 home net out of pocket after expenses, deductions, and long-term appreciation is likely about $2,825 a month.
Is renting better than buying?
However, this is where things get interesting. But before we go into which option is actually cheaper, let’s talk about rent. Fortunately, this one is fairly easy. The price you pay is the price you pay. There’s really nothing fancy about it. That then begs the question, can you rent a $400,000 home for less than $2,825 a month? Well, according to this chart here, the answer is yes. In fact, in all but four major US cities, renting is the cheaper cost than buying.
And to show you a few examples, take a look at this. In Las Vegas, you have this home available for $400,000 to buy. Or look at this one down the street, which is almost double the size for rent at $2,600 a month. Or how about in California? Here in Bakersfield, we have a 2,000-square-foot home asking $415,000. Or a larger 2,200-square-foot home is renting for $2,595. These aren’t just cherry-picked examples, either. Go ahead and take a look at $400,000 homes across the country, and then look at comparable homes for rent less than $2,900 a month, and you’ll be surprised.
And that leads me to wonder, in what scenario does buying a home even make financial sense right now? However, before we go into that, it’s important to mention that regardless of whether you decide to buy or rent, it is essential to build a good credit score. Then, they can add those as positive tradelines in your credit history to help boost your FICO score even if you’ve never had a credit card before.
In that case, they’ve just launched an all-new smart money digital checking and debit card that allows you to automatically build and improve your credit score by doing what you’re already doing, along with extra tools to help you monitor and improve your financial behavior. All of this begins when you create a smart money digital checking account, which automatically connects to Experian Boost, and from there, your positive bill payments could turn into a higher FICO score.
This means you can now build your credit without going into debt, and everything from your phone, utility, streaming services, and even rent can help improve your score as long as you pay on time for three consecutive months. You’ll also get a virtual debit card that you can start using instantly. Plus, you could get access to more than 55,000 ATMs, all without fees, and when you set up direct deposit with your Experian smart money digital checking account, you’ll also receive early paycheck access and $50 cash back.
It’s time to build your credit without going into debt, and now, with that said. All right, so in terms of which option is actually cheaper, whether that be buying or renting, here’s the The average American only stays in their home for 13 years before moving. And that means we need to compare that timeline with the cost of renting to see which really comes out ahead. In this case, assuming the same $400,000 home, after 13 years of making mortgage payments, your loan balance would be reduced to $276,000. And at 1% appreciation, your home value would be worth $450,000.
This means you would be left with $423,000 after paying 6% in closing costs, of which $276,000 is your loan balance. And that leaves you with a cashback balance of $147,000. You could subtract that amount from the 13 years that you’re spending out of pocket, $2,825 a month. That leaves you with $298,000 left out of pocket to say that you have owned the home for over 13 years.
And that also works out to be $1,910 a month. Now, to come to that number, we are making some general assumptions that property values are going to rise over the next decade and that you won’t encounter any unforeseen repairs. But that also means renting is the cheaper option at today’s prices if you intend to keep your home for at most ten years, although, just like our last example, things continue.
Why Renting is Better?
For example, if you’re running a business where tying up $40,000 would wind up making you significantly less money, then that’s a case against buying. Third, this might sound self-explanatory, but renting is also better if you believe the market’s going to be going down or remaining entirely flat for the next decade. As of now, housing prices have completely defied the odds and have continued going higher despite rising mortgage rates, but it’s way too soon to say if that’ll continue to be the case.
Renting is also better because you have very little responsibility and very little upfront cost. Outside of paying for things that you directly damage, the landlord’s responsible for paying all the increased property taxes, higher insurance rates, and anything else that goes wrong with the home. You, as the tenant, pay one fixed price every single month, and you’re done. And finally, renting is better because you have flexibility.
The thing is, with renting, you get up and leave as soon as your agreement is over. There are no commission costs of moving. And when there’s a lot of competition on the market, like there is right now, you have a lot of leverage as a tenant if you’re offering a quick move-in with good references. Of course, the downside of renting is that, number one, you’re at the mercy of the landlord.
This means if the landlord wants to abruptly raise your rent for no reason at all after the first year, an absurd amount, even if it’s above market rates, in most places, they can. Second, your rental cost is also not going to be locked in, and you’re at the whims of the market. Even though that might work in your favor if prices go down, that’s not guaranteed to happen and prices could continue going higher, even outpacing that of homeownership.
This means no painting walls crazy colors, no building your patio deck, no redoing all the landscaping and adding sculptures to fit the aesthetic. Although just like there are some negatives, we also have to talk about some of the positives when it comes to owning. First, long-term ownership still tends to be the better choice. Even though the market could certainly go down in the short term, long-term housing prices have proven to be fairly resilient.
And because of that, the longer you wait, the more likely it is that you’re going to come out ahead. Second, by owning a home, you’re going to be locking in your monthly costs until the house is eventually paid off. Now, even though things like property taxes, insurance, and ongoing maintenance are going to get more expensive as time goes on, your fixed monthly costs are going to be the same.
And third, when you buy a home, there’s just the psychological element of the house being yours. This one is hard to explain, but there’s a sense of freedom that comes along with owning your own home, being able to do whatever you want, and not being at the beck and call of a landlord. If you want and value stability, owning a home is priceless, but even though it’s priceless, there is a bit of a cost.
By making a down payment, what you’re really doing is locking away money in a property that’s completely illiquid with no way to get it back without actually selling the property or doing a cash-out refinance. Number two, your area is also not guaranteed to go up in value. Just look at some of the worst housing markets in the United States. In these 20 cities, home prices have underperformed the overall market by a lot, and there’s a strong likelihood that your area may see little appreciation over the next decade.
And three, you’re going to be locked into your home for better or worse. Like, consider that a 5% decline in property values would leave more than 200,000 households underwater on their mortgage. If that’s the case, you would have to come out of pocket to bridge that difference between what you own the home and what you could actually get for it in the event that you want to sell.
Conclusion
This means if you want the too long, didn’t pay attention summary, this is all you need to know. If you intend on living in your home for less than ten years, then renting is usually the cheaper option. If you want to manage your cash flow without coming out of pocket a significant amount of money, then renting is also usually the cheaper option. This also applies to the flexibility. Suppose you want to pick up a move on short notice. However, if you plan on living in the same place for more than ten years, then buying is usually better.
And if you want to lock in your payments to invest in the area, then buying is better. My personal preference with this is that if you’re going to buy something, at least buy something that needs a little bit of work, fix it up, and use that equity as a bit of a buffer in the event you need to sell.
And you want to avoid coming out of pocket in the event property values go up less than you expected. Obviously, every situation is different, and every area is going to have different numbers, but overall, this rule of thumb should hold. And that’ll include the New York Times rent versus buy calculator so that you can plug in your unique options and see which one is better, renting or buying.
