Ask Money

Renting vs. owning

Chris Farrell Jul 21, 2011

Question: I am a child-free, single surgeon living in Massachusetts. I relocated for a job over two years ago and am renting a house.

I am putting money away for retirement (6% to a 403(b), plus employer contribution) and am contributing to a personal savings account (hence not contributing maximally to the 403(b)). This account’s goal was to put a down payment on a house. Right now, the total in the account is over three months’ salary–the recommended “emergency fund”. I am very happy to see that cushion and don’t want to deplete it…I’m excited to see it grow and I think about making more financial investments with it in the future.

Many people (my financial advisor included) are assuming that I will buy a house, and I used to assume that, as well. Nowadays, the advantages in my mind – living without compromise in the space you want, “tax shelter” – are slightly outweighed by the idea of taking on massive debt and being fully responsible for any unforeseen (and very likely pricey) repairs.

My question: what is the TRUE disadvantage for me to keep on renting? I don’t think that the taxes I’d owe each year will be painful to me. Thank you! Renee , Upton, MA

Answer: I think the true disadvantage of renting is less control. You can’t lock in for 30 years your monthly rent like you can with a fixed-rate mortgage. A landlord can say no to pets. It doesn’t make sense for you to pay to install a beautiful kitchen even if your landlord approved the remodeling project. The garden isn’t yours.

That said, the mantra that renting is “throwing your money away” is wrong. Renters can have many of the same amenities of homeownership, from a nice kitchen to a good community. The maintenance is someone else’s problem. If your job takes you to another part of the country you don’t have to sell your home. You just wait until your lease expires or maybe you end up buying out the last few months. Renting gives you a lot of flexibility.

Going forward, the real question is which offers you a better margin of financial safety when you are in the market for shelter, owning or renting?

Take a step away from the housing markets peaks and valleys. Fact is, home ownership isn’t a good investment. It never has been. Yes, a home offers plenty of tax benefits, including the deductibility of mortgage interest payments and no capital taxes due on home sale gains under half-a-million dollars (for joint filers). It also offers the prospect of appreciation (that day will come again).

Those gains are offset by the costs of ownership, including mortgage payments, property taxes, and the cost of maintenance. Data going back to the 1850s suggests the long-term after-inflation return of real estate is about 2.5% to 3%, calculates economist Karl Case of Wesleyan College. His close academic colleague and business partner, Yale University finance professor Robert Shiller figures even that modest return is too high. He argues that the return on residential real estate over the past 100 years has been “zero.”

I think the low return figures on home ownership numbers are right. That doesn’t mean owning is a mistake. For one thing, you automatically increase your savings as you pay down your mortgage. (Another reason why home equity loans are toxic. It removes the automatic equity build-up.) Even more important, a home is a lifestyle. It’s a place where you live with all the psychological and emotional benefits that come decorating and landscaping it the way you want.

On the financial side the key to making renting pay off is this: Set up an automatic monthly savings program. This way you’ll build up your savings over the years. And what this savings will do is eventually give you greater freedom to live the lifestyle that suits you best. Done right, with a renting and savings program you could end up with more control over your life even though you have given up a measure of control over your shelter.

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