# Buying versus renting a house

A friend sent me the New York Times’s “buy versus rent” calculation page. The analysis shows that you can save a bit of money buying rather than renting if you are sure that you will stay in the house for five years. The potential savings are \$1743 per year in a \$172,000 house held for six years. I think the calculator is flawed, though, in that it doesn’t factor in the time that homeowners spend on trips to Home Depot, reading Consumer Reports, tweaking things in the house with hand tools, etc. It seems reasonable to me to budget at least 24 days per year (2 days per month) of effort that homeowners put in compared to renters, either because they are doing something that a landlord and his/her maintenance crew would do or because they are doing something that simply doesn’t get done in a rental. A person who owns a \$172,000 house might have the potential to earn \$20 per hour after taxes. Figuring an 8-hour day that’s \$3840 in personal labor that the homeowner puts in. Now the house has to be held for 14 years to break even with the rental.

The selling costs of the house don’t include the potential for it to be vacant for six months, with the former owner paying about \$7000 in rent somewhere else. That means the house has to be held for 15 years to break even.

Then consider the reduced flexibility of the homeowner. He or she may be spending more time commuting because it was too expensive/burdensome to move after taking a new job within the same general area (see “The American Dream or the American Delusion”, a working paper from University of Pennsylvania where the author found that “female homeowners spend less time on enjoyable activities, such as active leisure). He or she may turn down a better job in another city. If homeowners are commuting 20 additional minutes per day, that’s about 83 additional hours per year, \$1666 at \$20 per hour. Now the house has to be held for 19 years. If the homeowner waffles for five years before moving to a state with better economic opportunity (think Michigan to Texas), giving up \$5000 per year in income, the \$25,000 takes another three years to recover. Now the house has to be held for 22 years.

Homeowners in states with big unfunded pension liabilities (report), which is to say nearly all states unless investment returns end up being 8 percent/year for the next 50 years, could find themselves with dramatically higher property taxes over the required 20-year holding period. Renters will feel the property tax pain too, albeit indirectly, but will have the flexibility to escape. I’m not sure how to factor in state/local insolvency and accompanying property tax risk.

Obviously if you love being a homeowner, enjoy trips to Home Depot more than playing soccer or going to movies with your kids and friends, and are very picky about wall colors and appliances, it might make sense to buy. But I don’t see how it can be justified on rational economic grounds, contrary to the rosy “just hold it for six years” picture painted by the New York Times.

[Disclaimer: I am a homeowner, but I don’t think that it has saved me money or made me happier. I did it mostly because of a dog (who ended up making me happier and making me a lot of money too since he spurred me to start my own company).]

#### 22 thoughts on “Buying versus renting a house”

1. Robert Zeh says:

In my experience, having rented and owned, owner neighborhoods are more trusting and friendlier with more “you scratch my back, I’ll scratch yours” arrangements. For example, you’re more likely to loan a tool to someone who you know is stuck in the house next to you than to a renter who might be gone next month. I think there is a lot of social capital in having long term neighbors, and long term ownership seem correlated with ownership.

2. Stu says:

Minor note, that page wasn’t recently published, it was put up years ago. It is mentioned a lot on the web though so maybe it is constantly maintained/updated.

3. Greg says:

Love it.

All the wisdom I heard after graduating collegio was that owning > buying. So, I bought in 2007 just before the collapse.

After 6 years of getting screwed, I am finally no longer in that house. Recession aside, I still have no interest in buying again in the near future largely for the reasons you state above. Oh how I wish someone would have knocked some sense like this into me before I bought the first time.

4. Louis says:

“[Disclaimer: I am a homeowner, but I don’t think that it has saved me money or made me happier. I did it mostly because of a dog (who ended up making me happier and making me a lot of money too since he spurred me to start my own company.”

For you, owning a home did more than save you money, it made you money because it allowed you to own a dog which led to starting your own company. Owning a home also made you happier because you could own a dog.

Another logical analysis which in the end demonstrates logic alone is insufficient in making decisions such as these.

5. Robert: Excellent point. I have noticed similar features. I’m not sure if the extra neighborliness is worth having one’s mind rotted away by thinking about home repairs, appliances, and having one’s life taken away by plumbers who don’t call back or show up. I wonder if you could fix the neighborliness issue by designing more cooperative/social rental communities, which seems to be what some developers are trying to do.

6. Keep in mind also that if you “buy” a house in the US you _don’t really own it_. What you’re paying for is the opportunity to rent that land from the local government. You still have to pay rent (called “property tax”) to the true owner, and in addition they may (and generally do) impose significant restrictions on what you may do with it. They may also choose to arbitrarily evict you if some developer wants the land and bribes the local government to hand it over.

7. Chris Neumann says:

Let’s not forget the additional costs associated with home improvement because you CAN. My wife is an expert at coming up with things which convert our “house” into a “home”. Of course these things, eg tiles on walls, cost a lot of money and take a lot of time. If we were renting, we’d not be allowed to do this stuff, so the costs would not be there, and we’d have to suffer along with “just a house”.

Here in California, we have prop 13, so the property tax risk is theoretically reduced – homeowners on my block pay \$1000/yr in property tax. We sometimes levy “taxes” in the form of bonds, but those are applied equally to everyone, so if you can buy and hold for 20+ years, you’re probably OK. You can easily tell which homes have been owned for said 20+ years – they’re the ones in a terrible state of disrepair. Normally increasing property taxes would have encouraged these homeowners to move elsewhere long ago, but they don’t have to, so they stay in longer than they otherwise would and end up not being able to maintain their houses. I refer to these as “prop 13 houses”, eg “Oh wow, that prop 13 house is really beat down.”

Finally, with increased regulations regarding building and fire codes and stricter zoning rules, there is a class of homes in my area which are stuck in a permanent state of disrepair: If you try to remodel them, you are subject to these codes, so negative ROI. They are worth more as rental units since they’re still habitable, so they end up restricting the supply of available homes, and once again the building and fire codes, which are intended to make homes safer, end up acting like a tax and causing homes on the margin to be LESS safe because they can’t be economically upgraded.

8. Do you supply any value for quality of life? My first year and a half living in Cambridge, I had an absolutely awful landlord. There was never any hot water in the mornings. (The maintenance guy would come by at 3:30 PM and tell me that everything was fine, of course, as it wasn’t 9AM when everyone had just finished showering to go to work). Half the electrical outlets didn’t work, since whoever painted the place just painted over them without covering them up, filling them with gunk.

Now that I own, if something’s broken, I can either pay someone to fix it or spend the time myself. The former costs some money, sure. The latter ends up being entertaining time spent with my wife.

The result ends up being, I’m living in a larger, nicer place, for less money spent per month, once I consider the mortgage interest tax deduction. At the very worst I’ll break even when it comes time to sell the place, and even if it ends up having cost more in the long run, having a more comfortable place to live in would be worth it.

I can’t speak for Greg, who probably lost a substantial sum of money. But, having bought our place in 2009, I’m unquestionably positive about the experience.

9. Josh: That’s an argument for high-end rentals, which admittedly were scarce in Cambridge some years ago. But Kendall Square is now full of rental buildings that are much more luxurious than the typical Cambridge condo. You get a pool, a gym, a TV-watching theater, a party room, a courtyard with grills that the landlord maintains, etc. They aren’t cheap (\$3000 to \$4000+/month, unless you are one of Cambridge’s worthy poor families, in which case you will pay next to nothing to enjoy the same lifestyle as folks who’ve been studying and working their whole lives!) but neither are the fancy condos in Cambridge. And when the Biotech Bubble bursts here in Cambridge the occupants can scatter as necessary.

10. Zhenre says:

It is also somewhat of a hedge against housing costs increases in the future. It might be a better investment to just rent and put the money in the stock market but certainly there have been extended periods in recent history I in which it was worth hedging in this manner. Additionally as you are fond of saying the government is effectively loaning money at negative interest rates while the recent housing bubble burst and massive consumer and students debt had kept down the prices somewhat /at least compared to recent highs) so there are also many external factors why one might think it is not a bad idea to start a hedge now. Your points about lack of flexibility and transaction costs are of course completely valid.

11. Mark says:

Phil,

Being in the real estate sales and development world for nearly 23 years now and also as the owner of quite a few investment properties, I can say unequivocally that renting far, far outpaces owning in the average community.
Find a decent home with a reasonable landlord, i.e. one who doesn’t raise your rent 8% every time the lease is up for renewal and STAY THERE FOREVER. Be sure to invest the savings (what you’d be paying in taxes, interest, insurance, repairs and so forth) in a Vanguard index fund. On average, the renter comes out far, far ahead in comparison to the home owner.
I recently said goodbye to a tenant who’d leased from me for nearly 12 years and he left only because his family had outgrown the home. This was a fellow with a PhD in economics, a decent job and great credit…and he moved to another rental.
FWIW, Warren Buffett has repeatedly stated if he had had it to do all over, he’d have been much better off renting and investing the resulting savings.
PS
I am a home owner. Since 1993.

The NY Times calculator leaves out an important detail – it cuts off on the day the mortgage is paid off. At that point, the line should trend up sharply since the renter will always have to pay rent. I would like to see a better analysis of the post-retirement implications of buying vs. renting.

13. Mike says:

Home ownership is a way for wealthier people to suck at the public teet. Not just through mortgage deductions, but because of the shenanigans the government needs to go through in order to support 30 year mortgages. I’d imagine you could solve all our debt problems (if public debt actually is a problem for a currency provider, but that’s another issue) simply by eliminating the mortgage deduction. Can you guess why that would never happen?

Home owners are also less able to chase jobs. And recent home buyers were largely responsible for the Great Bush Recession. Home ownership actually does a surprising amount of of damage to the country. It probably does some good as well, and if we cut out the welfare programs for home owners, then it would probably all equal out.

BTW this might interest you:

http://www.npr.org/blogs/money/2012/07/19/157047211/six-policies-economists-love-and-politicians-hate

14. jim says:

Adam hits the nail on the head. I bought my house in 1984, then re-financed it a few years later to a 15 year loan…with much lower interest. I paid the loan off almost 10 years ago. So guess who has been living rent free. Sure, I pay property tax and upkeep. Renters don’t pay tax, but many current contracts pass some of the repair costs to the tenant. We’re going through this now at my daughter’s apartment.

Also, with a fixed rate mortgage your payment stays the same. Renters are subject to increases. I suppose there’s some kind of perceived freedom in renting. You can move on whenever you want to chase a job or a person. But so can I or any other homeowner. All I have to do is lease out my place and rent somewhere else…especially if I have equity built up.

Lastly, ask yourself if you really want to move across the country to serve as some mid-level, white-collar manager…to a job that offers no pension and makes you pay for half of you’re health care…and will downsize you out the door at the first suggestion of an accountant.

15. arbitrage says:

philg –

There is a missing element of renting vs. owning.

In Behavioral Economics, there is the idea that we are risk seeking on the downside – i.e we take more risk to avoid losses and we become risk averse when we accrue gains – i.e. we want to keep our gains so we tone down the risk. Rational behavior would say that one must increase risk as gains accrue and decrease as we take losses which is the Kelly criterion.

At the risk of stretching metaphors, there is a similar dynamic in Renting vs. Owning. Renting leads to sufficing and Owning to maximalizing.

When folks rent they will far consume far less units of “housing”. It might be less space, less amenities or a more downscale nabe but ultimately it translates to less dollars spent.

When folks buy they go for the maximalist acquisition or something in the upper quartile of what the range between what they could make do in and what they can purchase. This leads to them consuming too much housing.

This spread means that folks fritter away any gains of owning by consuming too much housing – they are still paying interest, taxes and maintenance and losing on the income from the accrued equity.

This makes owning far worse than renting on economic premises.

The only saving grace from housing is that it imposes a level of discipline as a store of savings . Most people do not have the discipline to save on their own. Home ownership by virtue of their mortgage payments acts as a savings accounts. Hence the common factoid that the wealth of most US households is in their homes which is backwards. It should read as most US households are only able to accumulate wealth by virtue of paying their mortgage!

Any thoughts?

16. jim says:

“Any thoughts?”

Yes, you may use less housing “units” by renting, but your money is gone forever. You have a good chance of getting something back if you own your home long enough.

I don’t know about home owners using more “units” or how this is extrapolated to “frittering away any gains”. But I do know several folks who pay more in rent than I ever paid for a mortgage payment.

When it comes time to retire, you’ll still be paying rent…smart homeowners won’t. I know it sounds simple and old-fashioned but it works.

17. arbitrage says:

Jim – You are not living rent-free. That is a fallacy many homeowners fall into. There is the opportunity cost of the equity in your home. If you were to cash it out and earn interest on it – say your home is worth 250,000 6% on that is \$15K/year. Compounded the return on that could be much higher. Factor in your taxes, maintenance and other costs (stripping and scrubbing the deck) and you are about even vis-a-vis renting.

18. Federico says:

My wife and I are paying 2.5 times the minimum mortgage repayment on our house. The sum we are forking out every month is about half of the rental price of the house (effectively identical to ours) just across the street. Our house is in the fabulous London Town, in the magical kindgom of Elisabeth II, a place known for attracting suckers in droves. Even of we relocate someplace less glamorous (after all we paid our dues to the lord of hipsters), the rental income we’d make off the house would cover whatever other rent/mortgage we’d have to pay, and in addition we could sell the house 30 years from now at a rapacious price.

So I would argue that YMMV in these kind of calculations. And FYI in the UK there are no mortgage deductions.

19. Stu says:

Jim, Adam: It doesn’t seem like the calculator is that incorrect with respect to the end of the mortgage. It does assume the buyer sells the house at that time, to enable a cash-vs-cash comparison of buyer vs renter. If the buyer never sells, he saves the transaction cost, or alternatively one could make the renter buy an equivalent house at the end of the period with accumulated savings/investments, to make a house-and-cash vs house-and-cash comparison. So there is one transaction cost in there, but to my mind the calculator does what is supposed to do.

I think in most cases, if you are sure you will be in the house for 30 years, then buying is indeed preferable for the intuitive reasons you suggest, and the calculator bears this out when I use it. One point however is that 30 years is a really long time, much longer than the typical homeowner’s holding period (5-7 years). The point of the calculator is to help think through issues about time and flexibility. If you are sure you are sure you are sticking “forever” then these issues don’t exist so you don’t need it!

arbitrage, what about the opportunity cost of the additional money that Jim would have spent on rent in the last 10 years since he paid off his mortgage? If he took the difference between what renting would have cost him and his actual tax/upkeep cost and invested it with a 6% return, would he be that far behind?

You’re also considering the opportunity cost on Jim’s hypothetical \$250k in equity. However, the lifelong renter has \$0 in equity at this time so the renter’s potential gain would be \$0. This is assuming the renter spent the same amount of money on housing as Jim. Maybe the renter spent a little less and was able to invest the difference, but enough to have saved \$250k?

21. Eric Shun says:

After 13 years of renting (& \$130K in rent payments) I bought my second house for cash at the extreme bottom of the downturn in 2011. I used the NYT calculator and the better one below to help me evaluate the decision. I wasn’t really looking to buy a house and enjoyed my under-priced beachside 2 br apartment, but the precipitous drop in housing prices pushed me to look around.

I found exactly what I wanted, one mile from my job two miles from the beach, at a very low price (well under \$100K). I’ve surely been experiencing continual, not-unexpected weekend trips to Home Depot which are now getting tiresome, but me handyman skills are getting pretty good. I greatly enjoy the extra space and stability & quietness of the single-family home neighborhood. I plan on remaining for the very long term. If I planned on moving around for my career I likely would not have purchased a home, but I plan an early retirement w/i five to ten years and am in the midsize coastal city that I’d like to be in. Real estate taxes are 2% of assessed value in year 1 of ownership. Assessed value is significantly lower than market value. Assessed value can increase a max of 3% per year. My annual property taxes are \$600. The home is 2000sf, 2 car garage, 1/3 acre, golf course view, built in 1957. Zillow and BoA now value my home at twice the 2011 purchase price.

In my opinion, if one needs career mobility then home ownership can be a drag. Otherwise, if not, then home ownership can be superior if bought at a low enough price and if repairs and taxes don’t kill ya.

Here’s an awesome Rent v. Buy calculator…