Buy or Rent Dilemma

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bradley
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Buy or Rent Dilemma

Post by bradley »

DH wants to buy a house, which makes him excited, and me anxious. We live in the NYC metropolitan area, which means a decent house is more than $250,000 with property taxes of 3.8% or higher.

Currently we pay a very reasonable price for our 1-bedroom apartment (20% of my after-tax salary, including utilities). The cheapest, decent house we've seen comes in at least 25% of my salary, not including utilities and other misc. expenses.

Now, another bedroom would be fine for when we have a kid... but there are 2-bedrooms to rent that still come in near what we pay now.

While I could technically "afford" a higher rent or monthly expense, it would be at the sacrifice of my savings rate goals. And I don't know if that's worth it. (And I know that's something only I can decide).

My question is: How do you know if it's better to buy rather than rent? Is it strictly from a cost point of view? Or is there some huge benefit to paying more to live in a house than rent that I'm missing? I'm familiar with the NY Times rent/buy calculator, and I've played with the metrics, but it doesn't really tell you how much house you should buy, just whether you should put that money towards rent or to a house.

jacob
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Re: Buy or Rent Dilemma

Post by jacob »

You use the NAV equation ... which is about what those calculators use. This will tell you whether it's cheaper to rent or buy. It won't tell you whether the market is in a bubble although a big difference between rent and buy costs is indicative! (It could also be a sign of rent control).

How much to buy depends:
Wealthy people are suggested not spending more than 10% of their networth on their house.
People who work for a living are suggested not spending more than 30% of their paycheck on the mortgage payment.

That's speaking strictly from a cost perspective. It's also aimed at the regular "wealthy" or "worker". ERE people tend to have unrepresentative budget patterns.

Renting benefits: It's generally easy to move. If something goes wrong e.g. the toilet doesn't flush or the A/C dies, it's not your problem to fix.
Renting downsides: You have to ask if you can put a nail in the wall to hang up a picture, etc. You pay your landlords mortgage.
Housing benefits: You can do more modifications than the renter. You can now hang up pictures or repait the walls. However, you still have to ask the city building department if you can knock the wall down. It's an asset to diversify into or speculate into. You can get some rather good tax-free gains if you time it right. It's the one financial asset that offers insane leverage for retail investors. You you actually own the house, the only thing that can kick you out is a failure to pay RE taxes. Also, if you own it, it's really nice not to write those rent or mortgage checks.
Housing downsides: If something goes wrong, you have to call around to fix and and you have to pay for it. It's a lot harder to move out because you have to sell it. If you're not willing to take capital losses, you may be stuck for years and years.

You can also buy a condo. A condo is somewhere in between the two above in terms of benefits and downsides.

George the original one
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Re: Buy or Rent Dilemma

Post by George the original one »

One of the deciding factors should be how long you plan to stay put. If you plan 5+ years of living there, then home ownership is usually worthwhile.

Other factors:
Do you want to customize your living space beyond what rentals allow?
Do you engage in hobbies/activities which require more space?
Does a particular neighborhood you want to live in have few/no rentals?

Since you're a city-dweller, you're probably not interested in land and distance from neighbors.

Scott 2
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Re: Buy or Rent Dilemma

Post by Scott 2 »

Understand your exit strategy before buying. The seller pays the realtor, you don't want to do that too often. Fixing stuff that breaks stinks, in my experience. Also consider if your standard for something you own will be significantly higher than for something you rent. That can quickly drive up costs. Better furniture. More space, landscaping, etc.

I bought around ten years ago. Lost a bunch of value when the market crashed, hate the hassle of maintenance, don't want to take the commission hit of selling, over spent on a bathroom remodel, etc. Would not do it again if I had a do over. Inertia makes staying put rational, but there's a lot of sunk cost and time I don't expect to ever get back.

Also, if I'm realistic, my wife's standard of living may be permanently set to this level as the new floor. Probably never going back to a simple one bedroom apartment and all the associated ease. Much easier to never upgrade then to downgrade.

Did
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Re: Buy or Rent Dilemma

Post by Did »

It all depends doesn't it. By far the biggest financial trap in Australia for normalish income earners is signing up to a lifetime mortgage. I see it as modern slavery disguised as choice. This would raise eyebrows in the slaves, but having not worked for three years that's how I see people forced to do so to pay for a roof over their heads.

They think they are free but because they can't imagine life without their home they are trapped. Off to work every day for them.....

It depends on value doesn't it. And how much cash you have. Many parts of the world have acceptable pricing for real estate if your ego is in check. Smaller is better of course. Sometimes you need to move to get value.

The Sydney median price now is over a million. Half of those characters could retire right now if they had the balls to restructure their lives and make the hard decisions. But they invent excuses and ultimately prefer to go into work every day to pay for a roof.

mfi
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Re: Buy or Rent Dilemma

Post by mfi »


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Sclass
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Re: Buy or Rent Dilemma

Post by Sclass »

Good suggestion on the financial calculator. You can download an HP12c emulator online free and use the free downloadable instruction manual/user guide to guide you through a rent vs. buy calculation. They have an example in one of the two books for a movie projector rent vs. buy for a theater if I recall right.

What I've found more helpful is to run a simple year to year "simulation". You just step through where you'll be next year in terms of assets, expenses, income etc if you rent and then do it for next next year, the. Next next next year and so on. Since we don't live too long you can do this for fifty years with a pad of paper and a cheap calculator. Do it for a version of you who rents, and a version who buys.

If "better off" is having more assets at the end of N years you'll get an idea of what is better. You can fine tune annual rates of return, anticipated changes in salary, kids etc. only fifty steps. Worth a couple of hours just to "play it out" before making a big decision.

I did this as a college student to try to guesstimate the long term financial implications of grad school before attending. After tossing in a house it became clear that I had a shot of making more money over twenty years if my investment returns were better than leveraged real estate gains on a home.

The wrinkle in my calculation is I couldn't predict what Bay Area (I was a kid at Stanford in the 90s) housing would do over the last twenty years. It went up faster than I'd anticipated. In the end (for me) it would have been the same if I'd rented or bought now that I've actually done the realtime experiment. It was pretty much a wash. However having my nest egg in a home instead of a bank account would put me in a different place.

thrifty++
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Re: Buy or Rent Dilemma

Post by thrifty++ »

wow housing costs peanuts in NYC. 250k is nothing. In Auckland average house cost is 900k. I wish I could buy something for 250k and I would if I could. I would imagine house cost to income ratios and rent to house cost ratios are far more in favour to buy in NY than here at that cost.

George the original one
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Re: Buy or Rent Dilemma

Post by George the original one »

thrifty++ wrote:wow housing costs peanuts in NYC. 250k is nothing. In Auckland average house cost is 900k. I wish I could buy something for 250k and I would if I could. I would imagine house cost to income ratios and rent to house cost ratios are far more in favour to buy in NY than here at that cost.
Careful in your comparisons... 250k is minimum, not average! [The average sales price for Brooklyn homes was $788,529, the report found.Jul 9, 2015]

bradley
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Re: Buy or Rent Dilemma

Post by bradley »

Thanks for all the input. I checked the calculators again and they do lean more towards buying, considering that a home would be 3 or more bedrooms (and even a 2-bedroom apartment does not compare).

Like George mentioned, 250k is the bare bare minimum, and this is a suburb of NYC with train access, not the city center. 350k+ is probably more indicative of the median value of a 3-bedroom that is not falling apart. Plus, if the home price isn't enough, property taxes kill. 3.8% (or more) in basically all of NJ.

Still, it just seems like the price of either renting or buying a 2+ bedroom in this area is just prohibitive. But I guess that's an indicator of something else, other than whether to rent or buy. Certainly something to think about.

JL13
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Re: Buy or Rent Dilemma

Post by JL13 »

Always make sure you're comparing apples to apples. Renting a 3/2 house versus buying a 3/2 house is the correct approach. Way too many people compare a 3/2 house with a 2/1 apartment. That's conflating too many details to arrive at a meaningful answer.

Owning a house is like owning any other business, except if you live in it you are the customers (tenants). Make sure both the business owner (you) is getting a good ROI (market rent/investment) and customer you is getting a good deal (market rent).

bradley
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Re: Buy or Rent Dilemma

Post by bradley »

JL13 wrote:Always make sure you're comparing apples to apples. Renting a 3/2 house versus buying a 3/2 house is the correct approach. Way too many people compare a 3/2 house with a 2/1 apartment. That's conflating too many details to arrive at a meaningful answer.
That's a good point. You can really only comparing renting a 2/1 apartment with a 2/1 condo/co-op (with the consideration of fees).

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Ego
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Re: Buy or Rent Dilemma

Post by Ego »

Along those same lines, consider that people living in a 0/1, 1/1 or 2/1 apartment will move to a 3/2 house with the idea that they will grow into it. So they are paying for a lot of excess capacity until that growth occurs. And again when the inevitable family shrinkage occurs when the kids move out, they are paying for excess capacity for a long time.

Consider also the present value of future hedonic-adaptation that occurs in a 3/2 home vs a smaller, more modest apartment.

It is kind of like comparing two lifetime supplies of filet mignon from the perspective of someone who is doing okay eating apples.

JL13
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Re: Buy or Rent Dilemma

Post by JL13 »

Exactly right. This is why the split-personality approach works. Make sure that the renter version of you is paying market rent on a place you would actually consider renting that fits in your budget. As soon as you need a smaller place, move out.

Conversely, make sure owner you is receiving a good return on investment, whether you're the tenant or not. When your current tenant (you) moves out due to a downsize, just get another tenant (not you).

You could even do this physically. Set up an "investment" checking account dedicated to the property. Actually write monthly rent checks to it at market rent out of your regular checking account. This will help force you to act like a landlord and helps you realize the true opportunity cost of wasted space.

wood
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Re: Buy or Rent Dilemma

Post by wood »

I love the split-personality way of thinking, thanks for the idea.
My question is: How do you know if it's better to buy rather than rent?
Me and DW are in a similar situation - we are renting and have to move before Dec 2017 because landlord is moving in. So we are considering buying.

The biggest factor for me is the capital that gets tied up when buying your home. In my case it would be about 20% of my net worth. In DWs case it would be close to 100%. And the only way to get it back is selling without loss, or taking up a loan if the value appreciates.
She doesnt invest (yet), but I make more than 15% return on capital on my investments. That is a huge opportunity cost for me to consider.

In terms of pure cash flow, owning your home is usually more expensive than many people think. My peers advice me to compare rent for renting vs interest+downpayments for owning. They completely forget about maintenance costs and taxes, which in my area is another 20% added to the costs of owning.

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