Rent vs. Buy: The Ultimate Guide to Making the Right Housing Decision

Many of us have been told that buying a home is always the best financial decision and that renting is throwing money away. But is this really true? As a multi-millionaire who has rented for 20 years, I've found that renting can often be the smarter financial choice. In this comprehensive guide, I'll walk you through a 4-step process to determine whether you should rent or buy, using real numbers and examples.

Step 1: Change Your Mindset Around Renting

The first step is to open your mind to the possibility that renting can make good financial sense in many cases. We need to move past the ingrained belief that renting is always a waste of money.

Let's look at a real example to illustrate this point:

776 Bryant Street in Palo Alto, California

• 2 bed, 2 bath, 1,521 sq ft condo
• Sold in 2018 for $2.15 million
• Current estimated value: $1.9 million

If you were to buy this condo today with 20% down at a 7% interest rate, your monthly mortgage payment alone would be around $10,600.

To rent this same unit would cost $5,400 per month.

Renting in this case costs about half as much per month as buying. And that's before factoring in all the other costs of ownership like maintenance, property taxes, etc.

This extreme example from an expensive market illustrates how renting can sometimes be the better financial choice. But this principle applies in many other markets too.

Step 2: Understand Common Housing Myths

Now that we've opened our minds to renting as a viable option, let's debunk some common myths about housing:

Myth: Renting means you're just paying your landlord's mortgage

Many people assume landlords simply charge enough rent to cover their mortgage plus a profit margin. But this isn't how it works. Landlords can only charge what the market will bear. Sometimes they profit, sometimes they lose money. They often don't even know their true costs.

Myth: Paying rent is throwing money away

When you pay rent, you're exchanging money for the value of having a place to live. It's no more "throwing money away" than paying for a meal at a restaurant. You're paying for a service and getting value in return.

Myth: You need to buy a house to build equity

While it's true you can build equity by owning a home, it takes a long time. With a typical 30-year mortgage, it takes over 20 years before you start paying more towards principal than interest each month. There are often better ways to build wealth.

Step 3: Run the Numbers

Now it's time to crunch the numbers to compare renting vs. buying. Here's what to include:

Rental costs:

• Monthly rent
• Utilities
• Any other fees

Homeownership costs:

• Mortgage principal and interest
• Property taxes
• Insurance
• Maintenance (1-3% of home value annually)
• HOA/condo fees
• Closing costs
• Renovation costs
• Transaction costs for eventual sale

Use an online rent vs. buy calculator to plug in all these numbers. The New York Times has an excellent one.

Let's use our Palo Alto condo example:

• Purchase price: $1.9 million
• Rent: $5,400/month
• 7% interest rate
• 20% down payment
• 8 year time horizon
• 2% annual maintenance costs

Running these numbers shows that renting would save over $800,000 over 8 years compared to buying.

When we factor in the opportunity cost of investing the down payment instead (assuming 7% returns), renting saves over $1.1 million.

Run these numbers for properties you're considering to see which option makes more financial sense in your situation.

Step 4: Determine if You're Ready to Buy

Even if buying looks good on paper, you need to make sure you're truly ready. Ask yourself these two key questions:

1. Can I afford to buy based on my income and debt?

Use the 28/36 rule as a guideline:

• Your total housing costs should be less than 28% of your gross monthly income
• Your total household debt shouldn't exceed 36% of your gross monthly income

To calculate: Total housing costs / Gross monthly income = Housing cost ratio Multiply by 100 to get the percentage

Example: $1,120 housing costs / $4,000 income = 0.28 0.28 * 100 = 28%

For the debt ratio: Total monthly debt / Gross monthly income = Debt-to-income ratio Multiply by 100 to get the percentage

Aim to keep your total debt ratio (including housing) under 36%.

2. Have I saved a 20% down payment?

Saving 20% shows you have developed good financial habits and helps you avoid private mortgage insurance (PMI). Even if you choose to put less down, you should be able to save this amount.

Key Takeaways

• Renting can often be the better financial choice, especially in expensive markets
• Run the numbers carefully, including all costs of ownership
• Use the 28/36 rule to determine how much house you can afford
• Save 20% for a down payment before buying
• Factor in opportunity costs of investing vs. buying
• Consider non-financial factors like desire for stability

By following this process and carefully analyzing the numbers, you can make the right housing decision for your unique situation. Don't rush into buying just because you think you "should." Take the time to determine whether renting or buying truly makes the most sense for you financially.

Article created from: https://www.youtube.com/watch?v=ETROzuOFffA