Feature Articles: Housing
Housing Finance Basics: To Rent or To Buy?
Brenda Procter, M.S., State Specialist & Instructor Personal Financial Planning, University of Missouri Extension
Decisions about housing are among the most important
financial decisions most of us ever have to make. Buying
a home is a major commitment, and home payments take a
big chunk of the family budget. In the 1970s, home
payments took about one-quarter of a family's take-home
pay. Today they take a much bigger piece of the
take-home pie--about one-third.
Homeownership has a number of advantages over
renting. Mortgage payments are like "forced savings,"
making your house an investment, not just a place to
live. You may have a better quality of life if you buy
instead of renting. You can do whatever you want to the
house and feel free to improve or change it to suit your
needs. You may enjoy more privacy if you own your own
home. You'll have no landlord to let in and perhaps no
neighbors nearby to make noise and disrupt your life.
Closing costs and mortgage interest are tax-deductible.
Even though home ownership has its advantages,
renting can often be a better option. Young people often
cannot afford the down payment and closing costs or make
too little in wages to qualify for a loan. There may be
other reasons to choose renting over buying as well.
When making the renting vs. buying decisions, there
are several things you may want to take into account.
- If you know you'll be moving within a few years, renting a home probably makes more sense than buying one. Why? You must pay lots of up front costs, also known as closing fees, when you buy a house. These fees cover things like a credit report, an appraisal of the property, property inspections, recording fees, loan fees, mortgage insurance, title insurance, homeowners insurance, legal fees, prorated taxes and termite inspections. They can be one to four percent of a home's price. When you sell the home, you'll pay more closing costs and a realtor's commission (6% or more).
- If you'll be staying in the home for many years, these costs won't matter much in the long run, because the house will most likely appreciate in value. If you're unsure how long you'll stay or know it will only be a few years, consider renting instead.
- If you can find a rental property you like that is well below market value, you may wish to rent and invest the savings somewhere else. Why? You might be able to make a higher return if you put your money in another investment such as an employer-sponsored 401(k) plan (employers sometimes match your contribution) or other higher-yielding investment. You could save up money to buy a better house when you do take the plunge.
- You may not actually get a tax break from buying a home. Why? Even if you deduct all the interest, the standard deduction available to all non-itemizing taxpayers may actually save you more. In 2002, the standard deduction was $4,700 for a single person, or $7,850 for a married couple. The amount of tax savings from deducting mortgage interest needs to be greater than the standard deduction, if homeownership is to save you on your tax bill.
For example, if you paid $10,000 in mortgage interest
and your tax rate were 27%, you would only save $2,700
on taxes ($10,000 in interest x .27). The standard
deduction would save you more (at least $4,700), so
homeownership wouldn't lower your tax bill.
- If you have just moved to a new area, you may want to rent until you have time to get to know the community. Why? If you rent for awhile, you will have time to compare different neighborhoods, observe traffic flow, and ask around about good realtors and lenders. The decision to buy a home is, after all, a huge commitment and taking your time may help you avoid costly mistakes.
Sources:
Internal Revenue Service Publication 501, Exemptions,
Standard Deduction, and Filing Information, Tax Year
2002 available at
http://www.irs.gov/pub/irs-pdf/p501.pdf.
Israelsen, C. Consumer and Family Economics 183,
Personal and Family Finance, Winter 2003 Class Lectures,
University of Missouri, Columbia, Missouri.
Israelsen, C. & Weagley, R. Personal and Family Finance
Workbook, 3rd ed., 2002, Kendall/Hunt Publishing Co.,
Dubuque, Iowa.
Kobliner, B. Get a Financial Life: personal finance in
your twenties and thirties, A Fireside Book, New York,
New York, 2000.
If you'd like to learn more about this and other personal finance topics, the University of Missouri offers 'Personal & Family Finance' a correspondence course, through the Center for Distance and Independent Study (800-609-3727). Information about this course is available at http://cdis.missouri.edu/CourseInfo/DetailCourseInfo.asp?1985.
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Last update: Saturday, March 22, 2008
