Making the Rent or Buy Decision

When making the decision to rent or buy a place to live, there are two broad categories of factors to be considered. The first and most obvious category represents the financial aspects of your decision—namely, the initial and ongoing costs, as well as the long-term pros and cons. The second category is a set of personal and emotional factors, which are more intangible. However, these factors play an important role in the decision to rent or buy.

Key Takeaways

  • Renting versus buying a home is not a simple decision—it is a personal decision that varies upon the individual and their current and expected future circumstances.
  • Financially, renting versus buying is based on being able to afford the down payment and closing costs, along with ongoing costs associated with maintaining a home.
  • Renting provides more certainty around monthly costs for the occupant. However, a homeowner builds equity and has tax benefits. 
  • Not only current income, but expected future income plays a big role in the rent versus buy decision.

The Finances of Renting vs. Buying

The first step in the decision-making process is to determine whether you can afford to purchase a home. Some issues to consider include your ability to make a down payment (generally between 5% and 20% of the home's purchase price) and pay closing costs (which may come to an additional 5%). These costs are likely to exceed the initial rental costs and security deposit that would be required if you were renting instead of buying. Of course, having enough money to cover the initial purchase of a new home is only part of the total expenses. 

The affordability of renting versus buying needs to be weighed against the emotional aspect, where the expected time horizon should be a key factor. 

Before moving into your new home, you'll need to put some thought into how much it's going to cost you to stay in it after you take up residence. Many financial experts suggest that your monthly mortgage payment should not exceed 28% of your gross monthly income. In addition, your total monthly debt payments should not exceed 36%. If you go beyond these limits, you may run into trouble. That's because in addition to paying the mortgage each month you need to factor in home maintenance, such as new appliances or a roof.

Advantages and Disadvantages of Renting vs. Buying

Renting may be a little easier on the pocketbook because it provides a fixed-dollar cost for monthly expenditures, which are paid along with the rent. Besides potentially increasing from year to year, the rent tends to remain steady. If maintenance issues arise, the landlord pays for the repairs. Instead of spending your money on a new roof, you can invest it or spend it as you like.

If you've done the math and can afford to make the initial purchase and service the ongoing debt, the next factor you have to decide on is whether this purchase benefits you financially. A rent-controlled apartment in New York City, or a place in a suburban location outside of a major city, quite possibly charges a month's rent that is significantly less than a monthly mortgage payment for properties within the city. However, even if renting by the month is cheaper than paying a monthly mortgage, there are other long-term factors to consider.

Those that espouse buying instead of renting often cite the ability to build equity, the tax breaks, and the investment value of a home as solid reasons to buy. While these arguments have merit, there are downsides to all of them.

Do the Calculations

A variety of online calculators are available to help you evaluate the financial aspects of the rent-versus-buy decision, but keep in mind that you need to estimate a range of variables, including the number of years you will stay in the home.

To estimate the investment profit the home will provide, assume the yearly rate of appreciation on the home's value. The results are only as good as the assumptions used to calculate them. Don't forget to consider the cost of ongoing maintenance. After you have carefully considered the financial issues, it's time to explore the non-financial issues. There are, however, other things to consider beyond the financial aspects when it comes to renting or buying, such as amenities and flexibility.