There is an ongoing debate that has raged in the home finance community for years: renting vs buying a home? One side will claim that home ownership increases your net wealth and is a good investment. The other will claim that owning a home doesn’t give enough wealth to outweigh the financial cost of upkeep. Your mom’s opinion is that your should buy a home because she wants you to be successful. Your dad says rent as long as you want, as long as you aren’t living in their basement. Does this sound familiar?
The problem is, you’re going to have a different opinion from everybody, because only you know your financial situation and outlook. Not only that, but there are many reasons besides finances to be concerned with this question. When you decide between home ownership and continuing to rent, you have to make a decision that is right for you and for your situation. That’s it. This decision can be broken down into several major factors:
Home Ownership In The Short Term
If you plan on buying a home, you need to save up for the down payment on that home. Traditional loans require a down payment of 20% of the home’s value. To put this in perspective, if we took the median home price in 2019, $315,000 according to Dave Ramsey’s website, that would be $63,000! I don’t know a lot of people who have that laying around, do you?
Of course, you could download or buy a budget worksheet that can help you save that money, but even with that, you may be waiting a while.
For people who are not independently wealthy and looking into home finance, I’ve got some tips for you. Yes, I’m looking at my fellow millennials, who really got the short end of the stick and that $63,000 is more similar to our student loan amount than our savings amount. Even you can overcome this! Fortunately, the Federal House Administration (FHA) has a requirement of only 3%, or $9,450 for that same median home price, that is required for their loans. That is much more manageable!
You will still have to pay what’s called Private Mortgage Insurance (PMI) if you cannot put 20% of the house value down when you buy, but it allows you to build equity and buy a home much sooner. That PMI is the bank’s insurance that, if you do not pay your loan, they still get their money. You are considered a higher risk loan, whether you agree with it or not.
Typical "Mortgage Payment" Inclusions
There are also many grant programs that help you pay for this down payment, most of which are presented on the FHA website. I personally benefited from one such program when I bought my first home. I didn’t have to pay back the money and it only added .5% to my interest rate.
While that does add up over time, and therefore increase my monthly payments slightly, I considered it to be the right option for me at the time. Do not be afraid to ask your mortgage lender about these programs, especially since most of them are geared toward first time home buyers. These programs exist so that the American Dream of owning your own home is something that you can achieve.
Renting Up Front Costs
The argument for rentals usually lies in the lower up front cost. However, that isn’t always the case. For example, most rentals require a security deposit upwards of $1000, depending on your market. That is the deposit that you, the renter, pays to cover the cost of repairs that may need to be done by the landlord when you move out. Sometimes your landlord gives part of it back though if all of that money isn’t required when you move out to cover repairs. I actually once had a landlord give me my entire deposit back. Usually, that deposit is completely forfeit since landlords use the time between occupants to spruce up paint and carpet.
Most rentals also require that you pay for the first and last month’s rent at the beginning of your occupancy. This assures the owner that you can pay rent but it also provides them coverage that, if you do decide to leave, you won’t leave without paying your last month’s rent. I have cousins that live in higher rent areas that a first and last month’s rent is equals over $2,000.
So, in total, the upfront cost of renting an apartment still equal a few thousand dollars. Again, this is highly variable and that is probably in larger city areas.
My last apartment for example only had a security deposit of $300 and a first and last month’s payment equal to $1,200. The nice thing about apartment up front costs is that it is a lot smaller up front cost than buying a house.
Home Ownership With Debt
Since I am talking mainly to the millennials at this point, let’s discuss student loans. When I first went and talked with a mortgage broker, I was told, “Don’t worry! Student loans don’t count one way or the other! We know that people have a lot of them!” That was…sort of true.
Ultimately, my student loans did end up mattering. The thing is, they didn’t seem to matter until the very end. When you are buying a home, it’s all about what they call your debt to income ratio. To translate, that means how much debt you have compared to how much income you have. If you have too high of a ratio, if you owe a certain amount more than you make, it is almost impossible to get a home loan. So, for my loan to actually be approved, I ended up having to pay off a large chunk of my student loans.
Since this made my financial position stronger, I wasn’t too concerned about paying off that chunk of my student loans. However, the $3,000 I had to pay suddenly out of my bank account, would not be a small sum of money for most people. So, be aware that this may happen to you and have some cash reserves just in case.
Are Student Loans Still An Issue If You Rent?
It’s still possible to get yourself into trouble even if you choose to stay a renter with high debt. Unfortunately, unlike when you buy a home, your landlord probably won’t be checking your debt to income ratio so there is no safety net.
Make sure that your rent costs no more than 30% of you take home pay if you want to be financially secure. I know, I see your eyes rolling already. It’s almost impossible for people to maintain this budget for housing with the rents going higher and take home pay not always keeping up. This is a guideline, not a law. It’s my advice so that you don’t worry about money.
If you can’t find a reasonably priced rental, talk to your landlord about ways to decrease your rent. Can you take care of the yard work or can you help them out with their rental company in order to “work off” some of your rent? Don’t be afraid to ask. You can also talk to your student loan company about your difficulty making payments and ask for help with payment plans. The worst thing people can say is no so don’t be afraid.
Buying a Home With Bad Credit
We’ve all heard the horror stories of home ownership with bad credit. You hear how hard it is to get a loan and you hear about all the bad terms of those loans. Unfortunately, those stories are true. With a low credit score, it is very hard to get a loan. Even if you do get approved for a loan, it usually has very unfavorable terms with high interest rates. Basically, this is because you are a higher risk loan and the bank wants more money for the risk they are taking. Fortunately, there’s a few things you can do about it.
If you do have a low credit score, start by calling your credit card companies and asking if there’s anything they can do to help you. It never hurts to ask. I’ve heard of people getting some of their debt forgiven for paying in a large chunk sum. I’ve heard of people working out easier payment plans to pay off their debt. The key is to be open with them that you want to pay things off, after all, they only make money if you pay off your debt.
Be as consistent with possible when paying things off. Set up automatic payment plans whenever possible for any debts that you owe. From student loans and internet bills to your credit card payments, almost everybody does automatic payments now. You even get a break on the interest if you do this usually.
You can also ask your mortgage broker what they may recommend. They want to sell you their mortgage so it’s in their benefit to help you find resources to increase your credit score. You can save hundreds of dollars in your payment for having a good credit score when you first explore home ownership.
Explaining Credit Cards and Buying Power
If you are fortunate enough to have a good credit score, you still need to keep track of your credit usage. This is the percentage of your credit lines that you are actually utilizing. So, if all of your credit cards added together have a total credit limit of $10,000, how much of that is currently unavailable in the form of a debt to the company. Logically, the less you owe at the time, the better. Fun fact, you can work the system and increase your credit limit by opening a lot of new cards but I wouldn’t recommend it.
When I was looking into home ownership, I found that I basically had to go on an all cash diet. In other words, I didn’t use my credit cards at all while I was waiting for my loan approval. I used only cash. This way, my credit usage was lower and I got better financing terms from my mortgage company. I highly recommend that you do the same thing.
How to Prepare for Home Ownership While You Rent
Similar to your credit score, your credit usage won’t apply as much if you are going to rent a home. Again, it isn’t something that your landlord is going to look at. I think that it’s important, even as a renter, to treat your credit usage with respect. That way, if you do ever want to buy a home, you have more buying power. But if you do struggle with credit usage, then it’s probably better to continue renting unless you are ready to change that.
Home Ownership In The Long Term
Equity Building and Taxes
Long term, home ownership does have some benefits that you should consider. You gain equity, which you can then leverage for other expenses that you may have. For example, my home now is worth roughly $100,000 more than when I bought it. That means that I can borrow, or take out a loan, against that equity and pay off other debts or invest the money. However, that equity is entirely dependent on the whim of the national economy and the blessings of the local housing market so I can’t rely on it.
You may also hear people say that the interest paid on your mortgage is a tax benefit so it’s worth it for that. But stop for a second and think. You don’t get enough of a tax benefit compared to how much you pay for everything else. So, you still come out shorter on money than when you went in. Not to mention the maintenance costs and time requirements for a home.
If we just look at my small home, built in the 1940s and 1076 square feet, there are several things that I didn’t account for. I had to replace the roof for example. That cost $5,000 which is no small sum of money. Before that there was the $1,500 that I spent to have the slightly hazardous tree trimmed in the back yard. I know exactly what you’re thinking. You’re thinking if you just buy a new home, you won’t have those types of expenses.
Okay, well if that home has a yard, you will need to buy a lawn mower and a weed trimmer, so that’s anywhere from $300-$1000 depending on the models you pick. If that home has paint colors that you don’t like, plan on spending roughly $40 per can of paint to change that. You see where I’m heading. Home ownership will always have expenses that will be larger than renting.
Money and House Payments
If you do buy a home, there is the cost of things such as insurance, taxes, and mortgage to consider. Insurance is something that you need to evaluate on a regular basis to make sure that you are covered properly and that you are not overpaying. I would suggest looking at your home insurance every 3 years to make sure that it looks appropriate for you.
Your taxes will go up every year, so your house payments as a whole will go up every year. The mortgage that you owe is also something that requires some maintenance. Just like your insurance, don’t hesitate to shop for better mortgage rates and refinance. If you’ve built up a lot of equity or if the insurance rates drop, you could potentially lower your house payments by selling your mortgage debt to a different bank.
Financial Benefits to Renting
The long term cost of renting does not typically cost as much as home ownership. You don’t usually need to worry about yard work, the roof leaking, or the paint color on your walls. The day to day charges, purchasing dish soap and buying new furniture, will still be there, but not the big purchases required to maintain the home. That’s the landlord’s responsibility. The incredibly low maintenance costs make renting an attractive option for younger people.
What you don’t pay in money, you’ll probably pay in annoyance as a renter. Unfortunately, renting does not usually allow you to customize or improve your home in any way. If that wall is in your way, your landlord probably won’t be okay with you reframing the building. You don’t get to choose the stove you want or change the paint color to fit your current interior design style. You, the renter, are at the whim of your landlord. But, you get the benefit of just paying your monthly rent, on time, and being done with it.
Home Ownership Provides the Ultimate Flexibility
Flexibility to Customize Your Space
The biggest difference in home ownership compared to renting is your ability to customize and design your space to suit your needs. When you own a home, you have ultimate freedom to design your space. I suggest you check out my article on the 7 best home improvements you can make to give you some starting ideas.
The downside is what my mother and I fondly refer to as “project creep” that home ownership inspires. This phenomenon is when, you may be tearing down a wall and immediately start thinking, hmmmm I could also tear out that other wall. It is tremendously freeing to know that you can do anything that you want but it’s a dangerous freedom.
Renting does not allow you to change your space typically. I did once rent an apartment where the landlord let me paint the walls any color I wanted. That resulted in a lime green bathroom. It was the same landlord that gave me my entire deposit back when I didn’t expect any of it back based on the shape of the apartment when I left it. Usually though, you are restricted from making any holes in the walls or rearranging anything to drastically. This can require some creative solutions to your storage issues.
Flexibility to Move Your Space
Owning your own home also means that you don’t have the freedom of movement that renting allows. You will own that house until you sell that house. So, if you want to move cities, you need to account for that. I guess, unless you move the house.
As a renter, you are able to move whenever or wherever you want, as long as you can find a new apartment. The only catch is that typically a landlord holds you to a lease term of anywhere from 3 months to 1 year. Typically, you will be required to pay your rent until the end of your lease or you are penalized.
Ultimately, there are huge benefits to home ownership and huge benefits to renting. I decided to buy a home because it was a dream of mine that I had been working toward and because it was less expensive to pay the mortgage than rent would be in my area. It has worked well for me with good equity and financial security.
I have found that owning my own home is difficult sometimes. It does require that I spend time and effort to maintain my home when I don’t really want to. The lawn is still going to grow and need cut. The house does need repainted occasionally, sometimes to change the color and sometimes for protection. I still wouldn’t change my mind and continue renting.
This doesn’t mean that it is the right decision for everybody though. More than anything, I want to impress upon you that this is a personal decision. Nobody else’s opinion matters and nobody should judge somebody for it. Don’t let someone else decide for you. Look at how stable your life is, look at your finances, and think whether or not you are ready to buy a home. If you aren’t, there is nothing wrong with renting until you are. And maybe that means that you never buy a home. That’s okay!