When is buying a house better than renting?

When is buying a house better than renting?

There are a few key situations when it generally makes more financial sense to buy a home rather than rent one. When you’re expecting to stay in the same area for at least a few years, have a steady income, and can afford a down payment and monthly mortgage payments, buying a home is usually the better option.

Additionally, if you are in the situation where you and your spouse are both working full-time jobs, buying a house may make sense as you your combined incomes will likely help you qualify for a mortgage (and better terms) and the combined incomed might allow you to pay off the mortgage early, saving you interest.

Owning a home, however, does come with some risks that renting doesn’t, like the potential for your home’s value to drop or having to pay for repairs yourself. But there are also some big advantages to owning a home, like building equity and being able to deduct your mortgage interest on your taxes. In this article we’ll talk about some pros and cons of buying or renting a home, and try to shed some light on when buying a house ends up making more sense than renting.


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What are the pros and cons of buying vs renting a house.

Pros:

  • The potential for the value of your home to increase over time which means your home is an investment and is helping you build equity.
  • Regularly paying down your mortgage will improve your credit score
  • The ability to customize your home to your own liking
  • More long-term stability in terms of housing costs and where you live

Cons:

  • The high up-front cost of purchasing and moving into a home
  • The commitment of being a homeowner
  • The responsibility and financial burden of maintaining a home
  • Property taxes and home insurances are additional expenses

As you can see – there’s both sides to the story and there’s a number of advantages and disadvantages to buying a home. For a lot of people, the decision ultimately comes down to money. In order to determine when it makes most sense to buy vs rent, you will first want to research the cost of either and how that plays into your total financial picture. Everyone’s situation is different, so here are a few questions to ask yourself to help you figure out what option is best for you.

Can you afford to own a house and how much can you afford?

The answer to this question really depends on a lot of factors that will be unique to your financial situation, the market, and the house you’re looking to buy.

Factor 1: What is your disposable income

First, you will need to know your monthly pre-tax income. You can find this number on your pay stub(s). Once you have your monthly income, you will need to factor in any other monthly payments that you have. This could include a car loan, student loan, credit card payments, etc. Once you have your total monthly expenses, you will need to subtract this number from your monthly income. This will give you your monthly disposable income. Now that you know your monthly disposable income, you can start to look at houses that are within your budget. It is important to factor in a few things when looking at houses.

Factor 2: Figure out the purchase price and the down payment amount

The down payment is the amount of money that you will need to put down on the house in order to buy it. The down payment is typically 20% of the purchase price of the house.

Factor 3: Consider the interest rate on the home loan

The interest rate will determine how much money you will need to pay back each month on the loan. The higher the interest rate, the more money you will need to pay back each month.

Factor 4: Consider the the length of the loan.

The length of the loan is the number of years that you will have to pay back the loan. The shorter the length of the loan, the less money you will need to pay back each month, but you will need to make a larger payment each month.

Factor 5: Consider your credit score

Your credit score is a number that lenders use to determine how likely you are to default on a loan. The higher your credit score, the lower interest rate you will be offered on a loan. Once you have considered all of these factors, you can start looking at houses in your price range and find one that fits all of your needs!

What is a Debt-to-Income ratio (DTI ratio) and how does it impact home buying?

A debt-to-income ratio is a simple ratio that compares your monthly debt obligations to your monthly income. Your DTI ratio is an important factor in determining how much house you can afford because it shows lenders how much of your income is available to make monthly payments on a new mortgage loan. A high DTI ratio means that you have a higher monthly debt load relative to your income, which could make it difficult to qualify for a loan or to get favorable loan terms. A low DTI ratio, on the other hand, indicates that you have a good amount of monthly income available to make payments on a new loan. To calculate your DTI ratio, simply add up all of your monthly debt payments and divide that number by your gross monthly income. For example, let’s say you have a monthly mortgage payment of$ 1,000, a car payment of$ 250, and minimum credit card payments of$ 100. Your total monthly debt payments would be $1,350. If your gross monthly income is $5,000, then your DTI ratio would be 27% ($1,350/$5,000). Most lenders prefer to see a DTI ratio of 36% or less, although some lenders will go up to 50%. If your DTI ratio is too high, you may need to work on paying down some of your debt before you can qualify for a loan. You can also try to increase your income by finding a better-paying job or by taking on some freelance work.

What is the 28% / 36% Rule?

The 28% / 36% rule is a guideline for how much of your income should go towards housing expenses. It states that housing expenses should not exceed 28% of your gross income, and 36% if you have a mortgage. This rule was originally created by the Department of Housing and Urban Development (HUD) as a guideline for people looking to buy homes. The guideline has been adopted by many financial institutions today, so it’s important to understand how it works. Most experts agree that these percentages are realistic because they mimic the ratios of expenses most people spend each month. For example, according to the Bureau of Labor Statistics (BLS), average household expenditures for food, transportation, health care, entertainment, apparel and services total about 35-40% of household income each year. In other words, if your total housing expenses are too high relative to your income level, then it may indicate that your housing costs are too high in comparison with other living expenses such as food and clothing.

Pro Tip: By working backwards, you can determine how much budget to set aside for your homeownership costs. Multiply your monthly income by 36% to determine a maximum acceptable mortgage payment amount for your situation.

How does the current housing market impact if I should buy or rent a home?

If you are looking to build wealth for retirement, then buying a home could be a sound financial decision. This is because the value of your home should appreciate over time as long as you don’t overpay for it. In addition, the money that you would have spent on rent can be invested in the stock market and other assets that can grow over time. However, this assumes that you will be able to eventually sell your home for a profit, which again, greatly depends on the current market and what you paid for it. When the housing market is soaring, the reverse could be true and it might be best to rent a home while investing money that would have been spent on an overpriced home.

“Buying near the peak of a real estate or stock market is never a good investment strategy,” said Ken H. Johnson, Ph.D., a real estate economist and associate dean in FAU’s College of Business. “Even though rents are high right now and rising, renting becomes a hedge against locking in a home price that is too far above a market’s long-term pricing trend.”

Johnson and FIU’s Eli Beracha, Ph.D., and William Hardin, Ph.D., are the authors of the Beracha, Hardin & Johnson Buy vs. Rent Index. The quarterly analysis examines the entire U.S. housing market but focuses on the 23 metro areas, factoring in home prices, rents, mortgage rates, investment returns, home insurance and other costs. Based on the current market it actually makes more sense to rent a home right now than buy. You can explore various markets and their respective index at the FAU site linked in the chart.

source: Florida Atlantic University – Beracha, Hardin & Johnson Buy vs Rent Index

Conclusion

As I hope we’ve managed to illustrate, the answer to the question “when is buying a house better than renting” isn’t a straightforward one. There are many variables and factors to consider and everyone’s financial situation is different. Hopefully this article has armed you with some insights and tools to help you make the best decision for your situation.