Are you pondering the very often debated topic of renting vs owning a home? Well apparently so are a lot of people these days.
I don’t know about you, but when I do the math, I come to one conclusion…own the real estate you live in. If you are smart about it, it’s a no brainer.
Unfortunately, Millennials—who have overtaken Baby Boomers as the largest generation in US history—are buying homes at alarmingly low rates.
The Urban Institute found that only 37% percent of Millennials own their homes, which is 8% less than previous generations. “8% less” translates to about 3.4 million young people that are missing out on one of the smartest investments everyone should make.
Of course, you can’t just enter home ownership blindly. You need to be savvy when purchasing your residence, and treat it like an investment.
Let’s Start With the Most Important Reason: You Will End Up With MORE MONEY Over Time
There are a number of reasons why you should own a home. Some are financial and some are emotional or functional.
But if you are going to just concern yourself with the bottom line..I believe that owning very often wins that category.
Now I understand that the country is big and not all areas have the same housing costs. So naturally you have to do that math on your situation…but you can use my calculator to figure that out.
It would be hard to fully explain what these charts are showing, but suffocate to say, I have done some serious number crunching on this.
Here are the basic criteria by which I devised these numbers.
- Based on the idea that someone paying $1500/month and rent, decided to buy a $300K house (if they were able to buy similar quality housing for less, then they would do much better in the end. But in some major cities housing is very expensive relative to rents).
- Being $1500 per month would not cover the total monthly costs of a property of this price, all extra monies that go into the carrying costs, get calculated for the renter, as if they were invested in the market getting 8% CAG.
- Rents paid are increased by 3% every year, while housing expenses are also increased by 3% each year.
All the other factors that go into a calculation like this, such as tax rates, expense ratios, insurance costs, etc are all represented. And they are all adjustable, with auto-updating totals.
At the end of 30 years, you would have 300K more in your bank account!
So yeah…based on all the assumptions I made, I calculate you would come out 300K ahead if you owned the house for 30 years!
Now I know there are a whole shit-ton of life variables involved here, but my calculator shows you how much you would be ahead each and every year as well.
Ok, if just looking at screen grabs of spreadsheets in not up your alley, I also made the amazing video where I walk you through my math. Whoa!
So, now that the numbers are out of the way, please keep reading to understand both how these numbers work out the way they do, but also some additional benefits of owning vs renting…
You Need to Treat Your Home as an Investment
My real estate success has been largely made possible by following this one very important rule: I treat any house that I live in, or commercial property that a business of mine occupies, the same way that I would treat any stand alone real estate investment.
For most average real estate investors, you’re going to be “buying and holding” your investments (aka being a landlord). So why is it any different if it’s your own home? Actually, it’s the biggest investment win-win.
Think about it. You get an extremely reliable tenant (yourself), and a landlord you won’t ever have to “deal” with (yourself)!
Plus you don’t need to pay for brokers fees when acquiring the lessee, or pay any property management fees during their tenancy. Talk about an ideal situation!
The reason this philosophy holds water, while being contrary to some other investors’ take on the matter, is that you as an individual, or business owner, will 100% be paying for a place to house yourself or your business. It’s as certain as death and taxes.
Now, if you own the property, you get to pay that rent to YOURSELF! If you don’t own the property, you pay rent to whomever owns it. Either way, you will be paying a market rent for the quality level of housing you choose to occupy.
The only way to avoid this fact is to find free housing (which would either be living with relatives or being homeless). That’s why I consider the rent I pay (to myself) to be a required living expense, owner or not, and count it toward the cash flow of the investment.
As an individual, or business owner, you will 100% be paying for a place to house yourself or your business. If you own the property, you get to pay that rent to YOURSELF!
If you don’t own the house you are paying to live in (aka renting or leasing), and renting vs owning, you will suffer significant financial and emotional disadvantages. Here are a few points for you to consider.
Why You Should Avoid Renting vs Owning
1) When you rent, your entire monthly rent is an expense thrown out the window. In contrast, as an owner, you actually benefit from the increased equity each month.
2) As renter alone, you do not get to deduct your rents or home expenses from your income at tax time, but the owner gets to deduct a significant portion of the expenses on their tax return.
3) Your rent will likely continue to increase along with inflation, outpacing the actual annual cost increase of the real estate…yielding more cash flow to the owner.
4) If you make any improvements to the property as a renter, only the owner captures the long term value of that. While you don’t have to pay for certain repairs as a renter, you are stuck with the bare minimum.
5) As a final downer, when renting vs owning, you could literally be kicked out of your home at the end of your lease term—at the owner’s discretion—seriously disrupting you or your family’s life.
The Business of Owning Your Home
When you buy your home, you are essentially creating a business for yourself—one in which you are the owner and the renter.
The US government sees so much value in its citizens being in the business of RE, with itself as the tenant, they incentivize you even further to do this.
If you create this business for yourself, you will be exempt from paying taxes on the gains of your asset, upon sale of this business, up to 250K for an individual and 500K for couples.
How insane is that? At a 25% tax rate, that is a potential $62.5k – 125K gift from the government, just for doing something that already has a tremendous amount of benefit to you. I mean…wow!
You get to add all those benefits to your personal financial growth. Seriously…this is friggin’ great. Why anyone would consider renting vs owning, outside of a few unique circumstances, is pretty lost on me.
Now here is where you can screw this great situation up…
If you know that you as a tenant can only afford 1000/month, you as the owner can’t offer a property that costs 2000/month, and only get 1000/month in return.
You also can’t do improvements to this property that you can’t recoup at a sale, just because you like the tenant, and they asked you to fill the bathroom with marble.
In other words, you have to take this seriously as RE investment. The math has to work just like any other RE investment.
But don’t fret. This doesn’t mean you can’t provide the tenant an attractive property, with some high end finishes. You as the owner just need to know…
1) that they can afford a rent that will cover the monthly cost of the property and
2) that the level of property you are buying, at the price you are paying, makes sense as a mid to long-term RE investment.
Make Money With Capital Improvements (AKA “The Live & Flip”)
So we’ve covered the “buy & hold” aspect of RE investing, when renting to yourself. You make money on the “buy & hold” with principal paydown, appreciation and tax effect, all of which increase your equity (none of which you earn when renting vs owning a home…booo)
The other way you make money with RE is with capital improvements. You invest money in the asset to improve it, with the hope that the improvement will increase its value beyond the investment amount, net of sales commission and fees. That was an unnecessarily wordy way to describe what “flipping” is.
Now, the difference here is that flipping is usually done by someone who doesn’t intend to live there, and they want to do it in the shortest time frame possible to reduce their risk.
I like to call what we are discussing here the “Live & Flip.” So, in addition to looking at the buy and hold value of this property (which you will both own and be the tenant of), you should hopefully buy one with an opportunity for value increase via capital improvement (aka a little “flip factor”).
The coolest thing about you being the tenant is that you won’t mind a little construction being done by the owner while you live there! You are literally the magical unicorn of all tenants! Seriously great.
What to Look for When Buying a Live & Flip Property
In one of the handfuls of RE investing books I’ve read, I came across a simple but powerful point—one that is very obvious, but still powerful nonetheless.
The author said, basically, that he only buys real estate where he can see a clear opportunity for improvement, which will yield a significant increase in value. The variable here is the word “significant.” The meaning of that varies for each investor.
At the basic level, doing a cosmetic improvement is where you would start. But also, look for potential SF to be turned into living space without a foundation change (this has the biggest payoff) like a partial garage conversion. Or can you modestly reconfigure the space but add a ½ bath or extra bedroom.
The goal is to find the defects in the house that can be fixed without a significant overhaul. And a good rule of thumb is saying to yourself, “Could I live here while these renovations are being made, without it affecting my life too much?” Anyway, you can see the various ways we have done this in our case studies.
Some Final Words on Renting vs Owning a Home
So to conclude (aka repeating myself using different words) owning your residence is..
1) one of the easiest ways to get into real estate
2) a great way to start a good business
3) get a significant income tax savings
4) meet and likely exceed your hopeful expected investment vehicle returns
5) achieve housing security for you and your family and
6) just get a large sum of free money thrown at you by the US government