Hey, guys.
It's Chelsea from The Financial Diet,
and today we are going to be diving into a subject that
has been long requested by you guys for us
to cover on the channel.
And that is The Great Debate about renting versus buying.
Now, some of you may be aware that I
did buy my first home with my husband
at the end of last year.
Di di.
And it was overall a pretty great experience
that I'm glad I did.
Even though at age, I guess at the time 32,
it was definitely longer than I had initially
planned growing up to wait until buying my first home.
Because like many of you, I grew up with the refrain
that looking back is quite unfortunate and annoying
about how renting is throwing your money away.
Because let's be clear, not only is that literally not true,
you're not throwing it away, you're paying for a place
to live because you need to live somewhere,
but it also really ignores the fact
that homeownership is not as accessible as it once was.
If it weren't for COVID, which plunged the New York City
housing market into a basically unprecedented level of crisis,
from which I profited greatly, I probably
wouldn't have been able to buy a home here.
And though it can be sometimes the right decision
to buy a home, like it was for me then,
renting is not universally worse than buying.
In fact, sometimes it can be the smarter Financial Choice.
So in that spirit, here are five reasons
to rent rather than to own.
Number one, is you need the flexibility of renting.
One of the biggest benefits of renting versus owning
is that if something in your life changes, you need to move,
you have a different job, you need a bigger space to live in,
renting makes it relatively easy to do that
without suffering potentially huge financial consequences.
This is especially relevant if you're
in a time of your life of potentially great change.
If you're in school, if you're changing careers,
if you're growing your family, et cetera.
And moving is complicated enough when you're a renter,
you have to actually coordinate the move itself,
you may have to negotiate leaving your lease early.
Or potentially finding tenants to replace you if you can't.
But those can pale in comparison to the potential drawbacks
of having to move at an inopportune time
when you own your home.
For example, if you own a home and have
to sell it relatively quickly, you
may not be able to recoup the losses that you sustain
when actually buying the home.
Experts advise that you should plan
to stay in a home for at least five years,
according to the authors of personal finance book
On My Own Two Feet.
Over the long run, housing prices have gone up.
However, you typically need at least five years
to have reasonably high odds that your home will appreciate
enough in price to offset the additional costs of home
ownership.
And we'll talk about those additional costs
in our next point.
Now, of course the exception to this rule
can be house flipping.
Where you by a relatively low priced home
in a potentially upwardly mobile area that needs a ton of work,
and you do that work yourself in order
to sell the home for a profit.
However, house flipping can require substantial investments
and is not guaranteed to turn a profit.
The gross profit on a typical flip
rose to $67,000 in the second quarter of 2021
as home values increased.
But the return on investment, which
is calculated after all the cost of the flip are factored in,
actually dropped.
The return was just 33.5% in the second quarter,
down from 37% in the quarter before.
And down from 40% in the second quarter of 2020.
Investors are now seeing the lowest returns since 2011,
when the housing market had yet to begin
its recovery from the subprime mortgage crash.
So like anything that takes a lot of money and time,
home buying or home flipping are not
things to be entered into casually,
or assumed that they are guaranteed
to turn a certain profit.
Because we mentioned, there can be substantial extra costs
associated with owning.
And that brings us to our number two point,
which is that it may not right now be in your budget
to cover those extra cost of owning versus renting.
Having a mortgage can sound like a great thing
when you think about a fixed cost over a super long time
being guaranteed to you rather than being
subject to the whims of the rental market.
But the cost of homeownership does not just
stop with your mortgage, your down payment, and your closing
costs, which can already be very substantial at three to 6%
of the purchase price.
Because remember that when you're a renter,
your landlord is ultimately largely responsible for things
like maintenance, replacing things, upgrades, et cetera.
As well as keeping all systems in running order,
and supplying things like running water and trash
receptacles, et cetera.
But when you're the homeowner, you
have to take on all of those costs yourself,
not just in terms of the money itself
but the actual labor involved, and having to, for example,
deal without water for a while while you actually
work on getting it fixed.
And the costs don't stop there.
Because for example, as a new homeowner,
you're likely to have to be paying property
taxes for the first time.
Here are just some of the average day
to day costs of homeownership you may not
have thought about beyond the cost of utilities and upkeep
or housekeeping.
Property taxes, which are $3,370 a year on average.
HOA fees, which are $200 to $300 a month on average.
Homeowner's insurance, which is average one to 2000 annually.
Private mortgage insurance if you
made a down payment of less than 20%, which is about half
to 1% of your loan.
Maintenance and repair costs, which
are $2,913 a year on average.
HVAC maintenance costs, which can be $400 to $900 a year.
So on the low end, you're looking
at paying over $10,000 a year on top of your mortgage
for a median priced home.
And these costs don't even cover the incidentals,
like a tree falling on your roof, which has happened
to more than one person I know.
The point is, as recent guest and multiple homeowner Sarah
Wilson, a.k.a. budget girl said on a recent episode of TFC,
when you're renting that rent represents the top of what
you'll be paying every month.
Whereas when you're buying that mortgage
represents the bottom of what you're
going to be paying every month.
And having to factor in a potentially sort
of limitless amount of costs on top of the mortgage itself
is something that many people are just not ready for.
But another reason you may want to be renting right now
is that you're still building good credit.
This point is short but important.
Your credit score is one of the most important factors
for determining how much you're going to spend on a home.
Typically speaking, you'll be told
that you need a credit score of about 620
to qualify for a conventional mortgage.
And while that may be true, a higher credit score
means you'll likely qualify for a loan with a lower interest
rate, meaning you'll pay less in the long run.
According to FICO, for a 30 year fixed rate mortgage of $300,000
the average interest rate offered
to a person with a credit score of 620 to 639 is 6.366%.
For a person applying for the same mortgage with a credit
score of 760 to 850 the average is 4.77%.
That former would come out to a monthly payment of $1,869.84,
and the latter would be $1,569.83,
meaning a monthly difference of $300,01,
and a yearly difference of $3,600.
So if you get approved for that lower interest
rate in the scenario, that would be a savings of over $108,000
over the life of the loan.
So if you are working on building your credit,
it is not just a question of whether
or not you'll get a mortgage at all,
it could mean the difference of literally six figures more
you'll be paying in the long term, versus if you
wait a little longer to build better credit.
Another important thing to consider
is that even if you're ready to buy on paper,
the current housing opportunities
in the area you're looking for may not be a good investment.
So I live in New York City, as I mentioned,
and basically everything around New York City
has been in a state of such frenzy
over the past several years.
It's like that medieval thing where they all
dance so much at that festival that they all died.
That's true.
Can we get that Wikipedia up here?
That's a real thing that happened apparently
in the Middle Ages.
Anyway, that's what's been happening 24/7
at every open house basically since COVID happened.
Everyone in the New York City metro area was like,
I need a three bed, two bath house on a plot of land
in frickin' Connecticut stat.
Damn the prices.
And it has been an absolutely chaotic market.
We have homes that are well over their typical value
based on previous trends.
These homes are regularly going for five, and even six figures
over asking with dozens of offers in, basically,
the second it comes on the market.
People waiving inspections, people paying all cash.
And that is not even addressing all
of the other factors in the market,
like investment firms buying up huge swaths of the housing
market and reducing the stock.
People are losing their [BLEEP].
And if you're looking to buy in a similar housing market,
that may be a good indication that it's
time to cool your heels and keep renting for a bit.
Because while real estate does typically
appreciate in value over time, paying more than a house
is actually worth is hardly a smart investment.
And yet in many markets, including
outside of New York City, that is how it's currently trending.
According to a recent blog from the Federal Reserve
Bank of Dallas, we're seeing abnormal trends
in the housing market for the first time since the housing
boom of the early 2000s.
Meaning that we could likely be heading for a bubble bursting.
And these abnormal trends are making it harder
for middle income Americans to buy in the first place,
according to an article in CNN.
All the metrics related to income and affordability
in housing appear out of sync, and the strange movement
in the data is really caused by lack of supply,
said Lawrence Yun, chief economist at the National
Association of Realtors.
The typical home has seen a 40% increase in monthly payments
over a year ago, said Yun, with a roughly 20%
increase in home prices, and another 20% increase
in higher mortgage rates.
People's incomes have not risen to the degree
that prices have risen, and the cost burden of ownership
has been drastically increased, he said.
This is not sustainable, Yun said,
and is the result of an increasingly inequitable
housing market in which fewer people can own homes
and first time buyers are priced out entirely.
And as we've seen before, these trends
don't just continue indefinitely.
In fact, we're already starting to see a little bit of a drop
off in our most chaotically inflated housing markets.
As we learned in 2008, at some point the music stops.
And people who paid a hugely inflated price for their home,
and in many cases actually paid well over what
was being asked for, could end up
with a substantial period of time
in which they paid more for their home
than that home is actually worth.
A phenomenon we saw in millions of households
after the 2008 housing crash.
It also means that you are going to have
to be invested in that home for a much longer time
to recoup those losses and make up
for the difference of the hugely inflated price at which you
bought it.
We are often raised with the refrain
that real estate is the most important and foundational way
to build wealth, but that is just not true in every market.
And in many inflated housing markets,
you could be actively buying into what is for several years
to come at least, an actively bad investment.
But even if you're not in one of these chaotic suburban housing
markets right now, you could also be in a position
in our number five point, which is
that you want to keep living in a high cost of living city.
So this is a bit more of a philosophical point,
but it's important to think about homeownership
and the associated costs.
In a broader picture of all of the other things
that are important to you in day to day life.
Say, for example, that you currently
live in a very walkable part of a city
where you don't have to own a car in order
to get around every day.
And not only do you really like that from a lifestyle
perspective and a health perspective,
but you also enjoy not having any of the associated
costs of owning a car, which in themselves can
make a huge difference on monthly budget.
Not to mention what it could mean for having a much,
much shorter commute.
Which not only buys you back time,
but has been demonstrated to have enormous benefits
for mental health.
And many people in high cost of living urban housing markets
are just not in a position to buy a home given how expensive
they can be per square foot.
But when you think about all of the other savings
possibly associated with living in a smaller space surrounded
by plenty of great infrastructure,
it could actually be the better choice for you
to continue living in that city and putting
your money in other wealth building
vehicles like investment, rather than hyper
focusing on buying a home.
And in general Americans have a tendency
to overvalue things like square footage of a home,
or outdoor space, which often goes fairly unused.
And is mostly just taken up by lawns,
which are water guzzling abominations that America
has inflicted on the world.
And undervalue other things that directly
lead to quality of life.
Like having a highly walkable area, a short commute,
a diversity of options for things
like cultural and social activities,
and plenty of public resources and infrastructure.
Along with the paradigm that real estate is
the most important and essential investment
that every person must make by the age of 30,
there's also this strange idea that at a certain age
we all just have to leave the denser urban areas
and move out to the suburbs.
And for some people this can be the right choice.
And why not?
Have at it.
Just don't pay 60 grand over asking and wave inspection
to do so.
But when we look at a lot of other countries
that are not America, living in denser areas,
even though that may mean that home ownership is out of reach
for a longer period of time, can be
associated with all kinds of other benefits.
It's really only here that we have
this extremely specific post World War II suburban paradigm.
It's worth rethinking it and thinking
of all the other ways in which we can save money and make
ourselves happier.
At the end of the day renting is not a perfect solution either
and we need more protections in place.
Like here in New York City, where rents
have increased about 33% since last year.
Big Yikes.
And we will be doing a whole upcoming
video about that topic, and things like tenants' rights
in the near future here on TFD.
But it's also important for us to say that not everyone is
going to be in a position, or have financial goals that
mean that buying a home where they currently are
or where they want to be is going to be
the right decision for them.
There are plenty of benefits to renting,
and there are also plenty of other ways to build wealth.
Renting is not throwing your money away,
and buying is not always a good investment.
But as always, guys, thank you for watching.
And don't forget to hit the subscribe button
and to come back every Monday, Tuesday, and Thursday
for new and awesome videos.
Chow.