Buyers are sometimes stunned at the number of potentially life-changing decisions and choices they are required to make over the course of a house hunt. This neighborhood or that one? Â Condo or single family? Fixer or move-in ready? Is that the right house? How much to offer, and on what terms? When to make an offer? Â Whether to remove contingencies?
And thatâ€™s just the short list.
But one of the most basic decisions real estate consumers ever make is the most impactful one, and itâ€™s often one they make before they have the benefit of our expertise: whether to rent or to buy their home.
At Trulia, we recently released what has been called the most sophisticated Rent vs. Buy calculator ever â€“ you can work with it and experiment with some of the inputs your average buyer client would likely useÂ here. The calculator allows smart would-be buyers to understand the many economic factors that influence whether it is cheaper to rent or to buy in their area and more importantly, in their personal situation, including line items like:
When buyers do come to you with assistance on the rent vs. buy decision, you might find the calculator helpful in showing them how their personal life and financial factors change the equation, and helpful in putting together an action plan that takes them to ready-to-buy with increased savings or a more conservative purchase price.
The calculator also makes it incredibly simple for you to help clients understand alternative scenarios by changing the mortgage rate, the income tax bracket for tax deductions, and the number of years that they plan to stay in the home.
We asked our Chief Economist Jed Kolko to help us understand the math â€“ and the myths â€“ around the rent vs. buy cost factors nationwide. Â Hereâ€™s what he had to say:
Myth:Â Â Rising home prices and mortgage rates make it more expensive to buy than to rent.
Fact:Â Homeownership remains cheaper than renting nationally and in all of the 100 largest metro areas. But rising mortgage rates have narrowed the gap between the cost of buying and the cost of renting.
The 30-year fixed rate is now 4.80%, compared with 3.75% one year ago (according to the Mortgage Bankers Association, or MBA). This jump in rates has raised the cost of buying relative to renting. As a result, buying is 35% cheaper than renting today, versus being 45% cheaper than renting one year ago.
The key reason buying is still cheaper than renting is this: both rates and prices are rising from very low levels and are still below their long-term historical norms. But the rent versus buy math depends on your local market, as rising rates and prices have pushed a handful of metros very close to the tipping point when renting becomes cheaper.
Myth:Â The mortgage interest deduction is the only reason home ownership is more affordable than renting.
Fact:Â A key factor affecting the rent-versus-buy math is whether you itemize deductions on your income taxes and what tax bracket youâ€™re in. If you itemize, you can deduct mortgage interest payments (not principal payments) and property tax payments from your income before calculating how much you owe in taxes. That said, only 33% of tax filers choose to itemize. Itemizing lowers the cost of buying relative to renting â€“ especially if you pay taxes at a higher rate, because that means youâ€™re deducting more.
But buying remains cheaper than renting almost everywhere even if you donâ€™t itemize. Without itemizing â€“ or if your tax situation means you get no benefit at all from itemizing â€“ buying looks 22% cheaper than renting nationally. And buying still beats renting in 97 of the 100 largest metros â€“ everywhere but San Jose, San Francisco, and Honolulu, even without assuming that the buyer will itemize their taxes and use the mortgage interest deduction.
Itemize at 25% (baseline assumption)
Do not itemize
Cost of buying versus renting nationally
Note: Negative numbers indicate that buying costs less than renting.
Metros out of 100 where buying cheaper than renting
What is the national mortgage rate â€œtipping pointâ€
Myth: Â The increase in home prices, which is hyperlocal, will be the tipping point in making renting a home cheaper than buying, in most areas.
Fact:Â Actually, the biggest factor narrowing the gap between the cost of buying and the cost of renting is rising mortgage rates â€“ which affect the entire country. In fact, the benefit of buying relative to renting shrank in nearly all of the 100 largest metros over the past year: only inÂ Springfield, MAÂ did the gap widen, from buying being 47% cheaper than renting last year to being 49% cheaper than renting today.
Nationally, rising mortgage rates account for about 8 points of the 10-point shift from buying being 45% cheaper than renting one year ago to being 35% cheaper now. The other 2 points are due to prices rising faster than rents. (How did we figure that out? If you used todayâ€™s prices and rents in the rent vs. buy calculation but used a 3.5% mortgage instead of a 4.8% mortgage, buying would be 43% cheaper than renting â€“ 2 points less than last year.)
Because fluctuating mortgage rates can affect the rent versus buy math, we identified the mortgage rate â€œtipping pointâ€ at which renting becomes cheaper than buying, given current prices and rents. If rates keep rising, San Jose will tip first in favor of renting, at 5.2%. Already today, at 4.8%, buying is just 4% cheaper than renting in San Jose. The tipping point is below 6% in San Francisco and Honolulu as well, and below 8% in New York, Los Angeles, and seven other major metros.
Nationally, the mortgage rate tipping point is 10.5%, and itâ€™s 20% or higher in Detroit, Gary, and Cleveland. Click here to download the full rent vs. buy cost considerations and mortgage rate tipping points for the 100 largest U.S. metros: (PDF) or (Excel).