Decision to Rent or Buy

Decision to Rent or Buy

Whether to Buy or Rent

As a childless, single professional with a pre-tax income of $30,000, the decision whether to rent or buy appears to be relatively uncomplicated: a numbers game where the answer can be determined by resorting to a critical view of the financial drawbacks and benefits of home ownership. While the financial aspects are important, the fact is that finances are not the only factor one must consider when deciding whether to purchase a home. In fact, the true reasons for home ownership frequently have nothing to do with finances: stability, a manifestation of the desire to settle down, autonomy and freedom from landlords and restrictions on rental property, the desire to live in certain neighborhoods, access to community resources such as parks and public transportation, and even the ability to own certain pets. What makes the financial analysis different from the other aspects involved in the decision whether to rent or buy is that if one cannot afford to purchase a home, there is no need for further analysis.

The first consideration is whether it is feasible to purchase a home in the current market with a pre-tax salary of $30,000. Even though interest rates are still incredibly low and the housing market is experiencing rapid inflation, a $30,000 salary limits one's ability to enter into most sectors of the housing environment. However, with good credit and a limited number of other debt obligations, such a salary would allow one to purchase a smaller home, perhaps a condo, certainly a piece of land and a manufactured home, and some single-family homes. Interest rates continue to be low, and someone with good credit can expect to find an interest rate below 7%, although an exact determination of interest rate depends on the amount of the down payment, the length of the loan, loan-type, and other factors. In fact, if one lives in one of the more rapidly appreciating areas, one can obtain an interest-only loan, which dramatically reduces monthly expenses, but is based upon the homeowner's gamble that housing costs will continue their dramatic rise. However, assuming a 30-year mortgage on a $100,000 loan at 6.5%, a homeowner is looking at a mortgage payment of approximately $630/month.

A pre-tax salary of $30,000 leaves approximately $24,000 after taxes, which gives a homeowner a monthly budget of around $2,000. Therefore, assuming a low pre-existing debt load, such a person could purchase a $100,000 home. Once it has been determined that a salary can support house payments, one must look to the down payment and determine whether one has sufficient financial resources to make a down payment. Actually, while such advice may have held true a generation ago, down payments are no longer required in property purchases. If a buyer is unable to make a down payment, they can roll the down payment into the mortgage, but will be subject to paying mortgage interest (PMI), to protect the bank's investment, which adds an additional $100 to the monthly payment. In addition, a buyer has to consider closing costs, which are costs incident to the purchase of a home, which are not recouped by the buyer. Typically banks require that a portion of the mortgage be immediately returned to them, the formation of an escrow account to cover expenses such as PMI and homeowners insurance, attorney's fees, and fees for the property inspector.

Taxes are an additional burden that homeowners must face. Property tax rates can be outrageous, depending on the location, and a person with a $100,000 home can expect to face at least $2,500 a year in property taxes. Taxes are generally paid with the mortgage payment, and such an obligation would bring the monthly payment to about $930. In addition to taxes, a homeowner is responsible for homeowner's insurance, which will add approximately $70 to the monthly house payment, bringing the monthly total to $1,000.

While $1,000 per month seems like a large expenditure, one must consider that much of that money is recoverable as yearly tax rebates. Money paid on mortgage loan interest and for state and local taxes is not subject to federal income taxation, which can dramatically alter a person's tax liability, resulting in a greater take-home salary.