Rent vs Buy Calculator
There are a few important disclaimers for this calculator. For starters, for most people, the decision to own or rent is more about personal issues than financial issues. Owning gives you freedom from having to deal with a landlord, and the security of knowing that you cannot be evicted so long as you pay your mortgage. Renting gives you the freedom to move house when you want, and the security of knowing that a financial crisis won't leave you struggling to pay a mortgage and risking bankruptcy.
If you are someone who may well be moving within a few years, renting is very likely the better choice for you, since there are a lot of up-front costs to buying a home and then additional costs to selling it. If you will be staying in one place for twenty years or more, owning will very likely save you money over time even if property values don't rise with inflation, because you will have built up equity in the house.
Another important disclaimer about the buy or rent decision is that it is hard to predict many things that make the difference between renting and owning. Future increases or decreases in rents, taxes, and property values will have a big impact on this equation, yet no one can predict them. Perhaps, then, this is one financial decision that really should be as much about personal factors as financial ones.
Calculator LegendPurchase price: the amount you pay for the house itself, as well as any closing costs or fees.
Loan Amount: the amount you include in the mortgage (also called the mortgage principal). Some people include everything--the entire cost of the house, closing costs, and fees--while others choose (or are required by the bank) to make substantial down payments and pay all costs upfront.
Loan Term: the term of the mortgage, usually 15 or 30 years.
Interest Rate: the interest rate of the mortgage you will take out. Keep in mind that if your credit isn't great, you probably will pay more than the rates you may see advertised.
Home Appreciates At: enter as a percentage the rate at which you expect the home to increase in value (appreciate) or decrease in value (depreciate) each year on average. If you think your house will lose value while you own it, put a hyphen before the number to make it negative. Of course, this is the trickiest part of the equation. If anyone really knew whether and how much real estate would change in value they'd dominate the real estate market. The longer you will own your home, the more likely that its value will go up, on average, over time. In the short term, the value may go down if the market drops. Indeed, in some parts of the United States, property values have already dropped quite a bit from the highs of early 2005.
Sell Home In: enter the number of years after you buy the house that you will sell it.
Property Taxes: enter the annual property tax bill for the property as a dollar amount. Of course, this number can change over time, but it's reasonable to use today's figure.
Home Insurance: enter the cost of buying homeowner's and any other home insurance for one year.
Monthly Rent: enter the rent you are now paying or that is generally being charged in your market.
Rent Increases By: enter the percentage you think rent will go up on average during the time period you already indicated. Of course, rents can go down, particularly in a collapsing real estate market. But, in general, rents do not come down as much or as often as property values do, so you can reasonably expect rents to go up on average.
Marginal Tax Rate: enter the tax rate of the highest tax bracket to which you belong.
Inflation Rate: enter the percentage you expect inflation to rise each year on average while you own the home. Of course, if anyone could predict future inflation rates, he or she would get very, very rich from dominating financial and other markets. You will just have to make a guess in order to get an idea of how inflation can impact this decision. Two percent is a reasonable number. While it is possible for this number to be negative (deflation rather than inflation), in reality, this almost never happens in the USA, at least not for any significant length of time.
Renting and Buying ExplainedA mortgage is a loan from a bank, credit union, or mortgage company that uses the property you are buying as collateral.
Renting vs. Owning: EquityIf you are renting, you have one big cost to worry about: rent. The traditional argument in favor of buying housing rather than renting it is that rent money is simply lost. When you buy a house, you have your house to show for all the mortgage payments. In other words, you're building up equity (assuming property values don't drop significantly). When you are done paying the mortgage, the house is yours free and clear. Even before you finish paying the mortgage, if your property's value is greater than the remaining mortgage principal, you have equity in the house, which you can cash out if you ever sell it.
In fact, many people simply assume that buying housing is a better investment than renting. However, you should keep in mind that buying and selling a house are both expensive processes. That means it would likely take years of rising property values for you to have any real equity that you could do anything with. For that reason, buying a house is often a bad financial decision if you will be selling it after a few years or less. Also, property values can go down as well as up. Historically, in the US since the end of WWII, property values have risen. Still, a conservative stock market investment would have done much better, so real estate is not on the average the best financial investment.
Mortgage InterestA mortgage is a loan from a bank, credit union, or mortgage company that uses the property you are buying as collateral. The interest on a mortgage is the biggest cost of homeownership. There are a few important facts you should know about mortgage interest:
* Mortgage interest will eventually cost more than the original mortgage amount over its lifespan.
* Mortgage interest is tax deductible on federal income taxes. This means you effectively get a rebate of a fifth to a third or more of your mortgage interest, depending on what marginal tax rate you pay. Note that this is a deduction, not a credit. You will not get back all the money you've spent on interest, only a portion of it equal to your marginal tax rate.
* You can sharply reduce the amount you pay on mortgage interest over the lifespan (term) of your mortgage by keeping the original mortgage amount down. For instance, you could pay closing costs immediately rather than folding them into the mortgage.
* You can also sharply reduce the amount you pay by paying faster. If you can afford the monthly payments, a 15-year mortgage will save you hundreds of thousands over a 30-year mortgage.
Other Costs of HomeownershipNote that there are other costs of homeownership that are not considered by the calculator. However, you should consider these costs when deciding whether buying a house is a good deal. These "soft" costs include one-time costs such as those of furnishing a new home and moving house. There are also costs you will have to pay for the life of the home, such as:
- Utilities: water, electricity (including air conditioning), heating, sewerage (in some locations)
- Air conditioning
- Private security systems
In general, if you are moving to a larger home, expect all of these "soft" costs to be higher than where you are living now. If you will be moving farther away from work also remember the increased commute costs. If you're driving to work, increased commute costs include not only the increase in fuel used, but wear and tear on the car.