I’ve recently been faced with the prospect of moving, which means that Jessica and I need to decide whether to rent or buy a home for at least the next three years.  I’ve been leaning towards renting.  When I tell people this, the majority of the time their reaction is something along the lines of “You’d really want to rent for that long?  Why throw away your money like that?”  I suspect that this reaction is because the real estate craze of the past few years (with the help of the gurus selling real estate investment expertise) has beaten the idea that real estate is the “best” investment into the everyone’s heads. 

Well, I’m not buying it (pun intended).  I did buy a home a few years ago (in my bachelor days), and then sold it two years later for a very nice profit.  But, that was not the same environment or marketplace as today, and it was my first home so I was able to get an FHA loan for nothing down, so there was no money tied up in the investment.

Now I’m looking at potentially buying my second home, and it just don’t make sense.  After running the numbers it looks to me like buying a home is a luxury that will cost a LOT more money than renting, even over a significant length of time.  The only compelling reason I could find to purchase a home would be because I wanted to make some radical modifications to the home that wouldn’t be allowed if I rented.

Since Google didn’t come up with any worthwhile, objective resources on the topic of renting vs. buying when I was looking, I figured I’d throw what I came up with out here on my blog.

Let’s start with the three things you will hear if you ask a real estate agent why you should buy instead of rent.

“Your Home Will Appreciate in Value!”

This is not necessarily true.  Believe it or not, prices can and do go down in free markets.  And guess what, that’s exactly what they’re doing right now.  Home prices have diverged too far from the median income (thanks to eFinanceDirectory for the charts) :

Prices are beginning to level off, and soon they will fall back to levels that the average person can afford.  The only reason prices shot up that high is because of bad lending practices (see: subprime mortgage crisis) and the fact that Americans can’t say no to debt.  Japan ran into the same situation a few years ago, and their past looks very much like our future:

Prices definitely appear due for a correction.

“You Will Build Up Equity in the House!”

This argument is making two huge assumptions:  that the value of the house will not go down (iffy), and that the Federal Reserve will not dilute the value of the equity that you DO have (if you take that bet, I have a nice bridge in Brooklyn you might be interested in…)  Equity is not liquid.  I can’t buy milk, cereal, stocks, or bonds with equity.  And when the home value goes down, so does your equity.  You also must keep in mind that as the value of the dollar declines, so does the value of your equity.  Every time the Federal Reserve lowers interest rates or injects money into the economy (as they’ve been doing on a regular basis lately), your equity loses value (even though the number on your statement stays the same).  In order to just break even, you’d need to be able to invest your equity, which you can’t do without taking out a home-equity loan, and then you’re fighting an uphill battle against the interest rate again. 

“Your Interest Payments are Tax-Deductible!”

Yes, this is also true.  But you also have to balance this against the increased monthly payment that comes with buying (in other words, is the net money output greater with renting, or with buying minus tax deductions?), and the fact that there are other potentially more effective tax-reduction techniques (such as starting a small business).

So those are the arguments you typically hear when you talk to someone about buying a house.  But there are also a few things that don’t normally get brought up, but you should definitely take into consideration.  You won’t normally hear about them, because they don’t make the housing industry any money:

Money up-front/Opportunity cost

Spending money is easy.  Using it to make more money requires education.  But if you are an entrepreneur or investor who is able to take a sum of money and make more money out of it, you have to consider the opportunity cost of having your money locked up in your house.  You’re no longer to invest your down payment or monthly equity payments into other markets, and that money is very illiquid (I think that’s the word for not easily liquidated…)  Your money is tied to your house until you decide to move--you can’t even make interest off of it (which means you're losing money to inflation).

Closing Costs

When you sell your house, you will pay a lot (usually $2500 to $5000) in closing costs.  This will further subtract from your equity, and any diminish any gains (or increase your losses) you take away.

Ease of Moving

A home as an investment is that it is only worth what other people are willing to pay for it.  I laugh when I hear reports of people unable to sell their homes for “market value”, because what they obviously MEAN to say is that they’re unable to sell they’re home for what THEY think the house is worth.  Market value is whatever they’re able sell the house for on the open market, even if it’s lower than what they paid for it.

Which brings up the biggest problem with buying a home, especially short-term (less than 10 years in my opinion).  When it comes time to sell, you have to deal with selling.  Which means that you have less leverage in whatever you buy next because you have contingencies on your contract, which is not attractive at all to a seller.  It takes longer to move, because you have to actually sell your house first.  You may have to spend money to make sure that your house passes inspection, and it certainly has to be up to code.  When you’re renting, you don’t have to deal with any of that.