Aviva Pinto is a CDFA, CDS and Managing Director and Wealth Manager at Wealthspire Advisors.
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A lot goes into the decision of whether to buy a place to live or to rent.
Some considerations relate to lifestyle: Do you like to move a lot or stay in one place for a long time? Do you want a private home, or do you prefer more of a community? Do you want something that is maintenance-free? Do you like to make changes to your living space? Do you have pets? Do you have children?
When renting you can move more often (depending on the length of the lease). You are not responsible for repairs and maintenance. You generally cannot make changes to the space. If you have pets, you will have to see if the rental allows pets.
From a financial standpoint, it comes down to the economy and your budget. What are the current housing conditions? Where are interest rates? What can you afford in the place that you want to live? Below, I’ll take a deeper dive into the financial factors to consider when choosing whether renting or buying is best for you.
The Costs For Renting Vs. The Costs For Buying
Renting
When renting, you will generally need a security deposit and one to two months of rent to secure the lease. There are moving costs, but besides hooking up utilities such as electric and getting renters insurance, there are few upfront costs. The downsides are that you do not own the property and therefore generally cannot make changes to the place, you do not get any tax deductions, and you cannot control whether the rent will escalate.
Buying
When purchasing, if we assume you are not paying cash, you will have to calculate your total expenses to see whether you have enough for a down payment (generally 5%-20% of the purchase price). You will have to pay a monthly mortgage (as of this writing, rates were 6.5%-7.5% nationally).
Whether paying cash or getting financing, you need to consider moving costs, property taxes, maintenance, homeowners insurance and utilities. The condition of the place you are purchasing is also important to consider. Will you have to do repairs or renovations, and if so, how much will they cost?
If not paying cash, you will have to qualify for a mortgage. Your credit score, income history, debt-to-income ratio, current assets and liquidity will all be considered by the institution providing the financing.
Selling A Property Before Buying A New One
If you are selling a property to purchase a new one, you will need to consider whether you will need to pay capital gains tax. If the property you are purchasing is less expensive than the one you are selling and the property you are selling has appreciated in value, you may have to pay capital gains tax on the sale.
For example, say you bought a home 20 years ago for $500,000 and it is now worth $2 million. If you did not make any capital improvements, you would have a long-term capital gain of $1.5 million. If you are married and file jointly, you would get a $500,000 exclusion. If you are single, you would get a $250,000 exclusion.
The married couple would therefore have a $1 million gain. They would need to purchase a new primary residence property for at least $1 million to not pay capital gains. The single person in the example would have a gain of $1.25 million and would need to purchase a new primary residence property for at least $1.25 million to not pay capital gains.
Figuring Out What You Can Afford
So once you consider all the costs involved, can you afford to buy or change rentals? The best way to figure it out is to do a budget. Look at your income versus what you are spending. Now is a great time to look at spending as credit card companies and banks provide year-end summaries. Most people tend to underestimate their spending and are usually shocked when they add everything up.
You need to consider all daily living expenses: food (groceries, dining out, ordering in), transportation (gas, car, Uber/Lyft), utilities (gas, electric, water, cable, sanitation, internet, phone), insurance (health, life, auto, long-term care, homeowners, disability), loan payments (credit cards, auto, school loans), entertainment, hobbies, travel, emergency cash, clothing, etc.
Then look at your current income and see how much you can reasonably afford for housing costs. The biggest difference between renting and owning is equity. When you buy a property, it is an asset that you own. But since there are higher upfront costs, it may not be in your current reach.
If the place you want is out of your reach, look at your expenses to see where you can cut back so you can get closer to your goal. Or make it a goal to save for your dream place.
Another downside to owning—besides the higher upfront costs and the maintenance and repairs—is market risk. If you purchase at the wrong time and then have to sell, you could lose money. I tell clients that they need to have at least a five-year time horizon if they are going to be buying a property. Anything less could have market risk.
Create a financial plan, and set goals for a home in a certain number of years. See how much you need to save. What asset allocation will you need to reach the goal? How much risk are you willing to take, and how much risk do you need to take to get there? Include future goals, such as education for children, and do not forget to factor in inflation.
A wealth manager can help you with budgeting and creating your financial plan to give you a definitive answer to the decision of buying versus renting.
The information provided here is not investment, tax or financial advice. You should consult with a licensed professional for advice concerning your specific situation.
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