Buying vs renting housing: which is the better financial choice? A case study

8/8/2022

Since discovering the FIRE movement I've been intensely studying the myth and cult of homeownership. This concept is also tied up in societal noise that if you are renting then you are throwing your money away. Or that you haven't reached adulthood if you are still renting. I wanted to find out in a case study if renting could give you the financial upper hand over buying. I took 7.5 years of records owning my house and renting it out once it was no longer my primary residence. Read on to see the numbers.

Meet The House in our case study

I bought a house in Denver Colorado in November 2014. I lived in it until 2016 when I moved away and never returned. During this time, I kept impeccable records as a proper accountant does. I went back through and organized the numbers to show a column of what the person who rented this house spent to live here. Then I added in a column of what the buyer residing here would have spent to live here. I tracked the cash difference in the last column. I excluded any costs that I incurred which were related to being a landlord such as property management fees or other leasing expenses that I would not have incurred by being the owner occupier.

The numbers laid bare

And if you want to know the general maintenance and renovation expenses they are:

Interpreting the results

I am not the first to argue that buying the roof over your head may not be a good investment. Nor am I the second. I was inspired to do this case study by Episode 047 of the Choose FI Podcast. But it is much more illustrative to give a live example with real numbers to back it up.

I am assuming that both the renter and the buyer are effectively the same person that made different choices, which means that they both earn the exact same income. As such, in the years that the renter is spending less of their money on the house than the buyer would be, they have extra left over to invest in the stock market (I choose VTI as my example). This outcome is reflected at the bottom reconciliation on the line "Stock Market Returns" and represents actual returns on VTI for each year. Compounding growth is amazing.
The house that was purchased for $252,500 in 2014 would need to sell for $366,481 over 7 years later just to breakeven with having rented those 7 years. If the sales price were less, then renting would have been the better financial choice.
In my specific case, my sales price was indeed above the breakeven sales price at a whopping $576,000 in March 2022. I was lucky. But what is clear in either the breakeven sales price or the actual sales price is that "building equity in the house" is an insufficient argument for buying. I needed to actually believe that real estate in the Denver market would substantially appreciate, and more than the national average, during the period of ownership.
I added an additional figure below my actual sales price which is the estimated sales price based on the 3.5% national average over 50+ years of real estate growth. We know that the 2022 price is an outlier, and that if this was an "average" year then I might have expected a sales price of $315,166. As you can see in my second point above, this would have been less than the breakeven price and I would have been financially better off being the renter. You can plug in different cities and different periods of time to see real estate returns using this cool calculator.
With a mortgage interest rate of 4%, equity does not get built fast. In around 7 years my mortgage went from $239K to $205K. The early years of a mortgage are mostly being paid towards interest which is equally as "throwing your money away" as paying rent is perceived to be.

Interested in another case study? I made a Part 2 in June 2024 to look at the market in San Francisco! Read on by clicking here.

"BUT you're not factoring in ...."

Taxes? You are right. I excluded any supposed tax benefit from deducting mortgage interest and property taxes because in this case study the total each year is well below the standard deduction. It may have provided a small benefit in the past but for someone looking to calculate into the future, you would use the current standard deduction as your measurement tool ($12,500 for single and $25,100 for a couple) which renders the "tax benefit" point moot for most Americans. Only 10% of Americans are estimated to itemize after the increase in the standard deduction a few years ago.
Oh one more tax benefit I excluded: capital gains taxes. That's because the renter could use a strategy of slowly selling the stocks and taking advantage of their 0% tax bracket to pay no capital gains taxes on disposal. The homeowner would benefit from the primary residence exclusion and also pay no capital gains tax (up to $250,000 of gain for single and $500,000 for a couple).
"If I own my house for decades, I will pay it off and save money when I’m old”. That might be true, but inflation still effects your cost of living and you are more likely to encounter surprise expenses than if you choose to rent. Let's break this important argument down into smaller bites:
- The longest living parts of our homes are the roof and the sewer, 15-20 years and 50-100 years respectively. Everything in a house is going to keep turning over as its useful life expires and as our personal tastes change. Imagine you will need to renovate all parts of the house every 20 years and replace the fridge / AC / furnace / washer / dryer etc every 7-15 years.
- The property taxes will continue rising with values (if you live somewhere with property taxes, though there might also be discounts for older people).
- The homeowners insurance will continue rising at least with inflation but also with global warming potentially causing increases to the rates.
- The cost of repairs and renovations mentioned above will continue rising because inflation increases the costs of parts and labor.
- All of these variable components can account for 50%+ of your ownership costs. However, once your mortgage is paid off, these costs account for 100% of your ownership costs. Renting can lock in rates especially in rent controlled areas.
- Rent is also predictable year-on-year while homeownership comes with surprise costs like a burst sewer line, leaking roof, and so on. Nobody wants surprise costs when they are old and living on limited income.
- It's also important to remember that life is not just two options. Imagine being the renter up until you are 60 years old, investing all of your savings into VTI that you didn't spend on a house in your younger years, and then you can buy a house in cash that is move-in ready and suited to your elder care needs.
- From a financial perspective, there is no superior argument that you need to buy the house when you're 30 and sit on it until you die. Here are a few interesting articles about how people don't factor in the enormous costs to make their home habitable as they age:
  - https://www.aarp.org/money/budgeting-saving/info-2017/costs-of-aging-in-place.html
  - https://www.cnbc.com/2015/05/08/ord-to-grow-old-in-your-home.html

Key takeaway

Of course, many people buy property for more reasons than the financial ones. But for those people that do not feel the urge to own the roof over their head, who enjoy the freedom that renting provides, and who hate renovating and maintenance: I need you to know that you are a fully formed adult that could be making the better financial choice for your life and geographical situation. You are not throwing money away on rent. Every city and personal situation could render a completely different outcome. The point is that it is not a slam dunk that buying is always financially better than renting.
You do you.

UPDATE November 2022, I'm going to start adding links to other blogs/websites that have published similar number crunching:

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