Should I Rent or Buy? 5-year breakdown with cost/benefit analysis.

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Are you a planner? Do you know exactly where you’ll be working or where you want to live in 5 years? If so, then answering the question of should I rent or buy is somewhat easy!

A lot of people don’t know where they’ll be working in 5 years. The average time an American worker has been employed with their company is 4.6 years.

That drops to 3.2 years for millennials.

There are a couple of important questions to ask yourself when determining to rent or buy.

How long are you planning to live here?

The length of time you’ll be living in your new place is the most important question to ask.

Uncertainty is a major factor to consider when choosing to rent or buy. Historically, the longer you plan to stay put the more advantageous buying becomes. Conversely, if you’re not looking to anchor for very long, renting tends to be a better deal.

Summary: The longer you stay put the better buying becomes…usually.

Home Prices and Market Trends

Did you know the annual rate of appreciation for home values is 3.9%?! That’s according to Black Knight, Inc.’s report on the 25-year average.

That’s great but what you need to consider is what will home prices in your neighborhood do? If they’re forecasted to meet or beat the national average, sweet!

Will they appreciate at a slower pace? That could still be ok if you’re talking 1-3%. Could the neighborhood be at risk of declining home prices?

It’s possible!

Look, you and I aren’t fortune tellers. But, you can do your research, talk to locals, chat with appraisers, and try and get an idea of what home prices are forecasted to do. Zillow is a great site that does provide home value forecasts.

5 Year Rent vs Buying Analysis

Rental Costs – Monthly

  • Rent – $2,000
  • Utilities – $150
  • Total – $2,150

Total 5 year rental costs – $129,000

Home Ownership Costs

Closing Costs

  • Lender origination – $1300
  • Points – assume no points paid
  • Appraisal – $550
  • Inspection – $350
  • Title – $2700
  • Attorney – $750
  • Recording – $250
  • Miscellaneous – $300
  • Total = $6,200

Mortgage Assumptions and Costs

  • Term – 30 year
  • Rate – 3.25%
  • Down Payment – $60,000 or 20%
  • Mortgage amount – $240,000
  • 5 years interest cost – $37,006

Taxes and Home Owners Insurance

  • Property Tax (based on IL tax rates which are high) – 2.3% – $6,900
  • Home Owners Insurance – $900
  • PMI – $0

Total 5 year home ownership costs – $105,538.27 (mortgage interest, property taxes, home owners insurance, closing costs, utilities).

Considerations

Rent Deposit – the assumption is made that you’ll get your first-month rental deposit back.

Down payment – if you decided to rent instead of purchase and invested the $50,000 down payment, a return of 5% annually would gross you around $14k over 5 years. That drops the buying benefit from around $24k savings to $10k savings.

Home value – the hope is your house would appreciate in value but there are variables that could cause a loss (2008 for example). If the home appreciates it only further strengthens the case to purchase a home.

Rent cost vs. home value – typical rent costs are 0.80% – 1.1% of the homes value. I assumed the lower value of 0.80% or $2,000 rental cost based on a $250,000 home.

Time – if home values appreciate or even stay flat, homeownership tends to be the better investment IF you plan to stay put for more ~3-4 years. The fixed costs associated with homeownership take time to be recuperated but once they are, the returns continue to grow.

Conclusion

Historically, buying is a better investment if you plan to stay in the same place for longer than ~4 years.

Buying has more upfront costs which take time to recuperate. This is why shorter-term stays are better suited by renting.

Buying anchors you down as it can be difficult to sell. If the housing market drops, your asset (the home) can lose you a lot of money, on paper at least. If you’re forced to sell in a down market, that can be a big hit to your net worth. As with any major purchase, refer to your budget to make sure the costs align with your cash flow.

Try using this calculator to determine the best investment. It doesn’t do a perfect job as there are some costs it doesn’t account for but gets you close to the best choice.

Ultimately, your choice will come down to questions only you can answer. “Is the home considered an investment?” “Do I prefer more flexibility or am I willing to give up some flexibility for possible asset appreciation?”

Paul W

Hello! I'm Paul, finance expert and founder of The Income Finder. With over 15 years experience in the finance industry, a bachelors from Benedictine University and MBA from DePaul, I'm well qualified and ready to share great insight and tips on money management. Read More