A Rent/Buy Example

Posted by Dave Fratello on Wednesday, August 24th, 2011 at 7:48pm.

We recently overheard a local agent speaking with a client and the guy, a straight shooter, said to the client in so many words: "For many potential buyers in the South Bay these days, the rent/buy equation favors renting."

Nice to hear a guy who doesn't talk his book, right?

Equations are one thing, emotions are another, and the rent/buy decision seems rarely to be about something so quaint as the monthly nut or so quant as a 20-year forecast. Point being: Some folks just know they want or need to rent, and some folks just know they want or need to buy. Spreadsheets are optional.

If you want to run the equations, there are any number of helpful formulas and online tools. One of the simplest and best is this interactive page at the New York Times online. For any given property, you can input anticipated rental amount, down payment, mortgage rate and property taxes. (Be sure to change the defaults: We suggest 5.0% for the mortgage rate and 1.15% for property taxes to reflect local rates.)

These calculators often require a lot of guessing, because rental market data aren't readily available or clearly comparable from one property to another.

But here's 3204 Poinsettia (3br/2ba, 1750 sq. ft.), a Tree Section house which is offered both for sale and for rent at the same time. This one lets you run the numbers directly and know you've got a valid rent/buy equation out of the process.

The home is now offered for sale at $1.299m (see our mid-June review here). 

But it's also offered for rent at $4,200/mo.

Off the cuff, this one looked pretty obviously like a case where renting makes more sense, dollarwise.

With 20% down ($260k) and a 5.0% standard 30-year mortgage, the monthly payment is $5,575 plus another $1,250/mo. for property taxes, bringing the monthly to $6,825. That's a full $2,600 (+61%) more than you pay to rent the same house.

The NYT calculator takes account of tax benefits and lets you tweak expected rent increases and house price appreciation. (Appreciation... quel concept!) 

Using the defaults for rent and house price increases (+2% for home prices and +3% for rent increases), the calculator delivered an unambiguous answer with these data: Renting 3204 Poinsettia is better for the next 30 years.

With average 3% annual home price increases, the equation flips at 14 years. You see how sensitive the numbers are to unknowable factors. 

The NYT calculator doesn't appear to account for potential growth in your investable funds. That is, were you sitting on $260k and choosing between renting (for 30 years!) or buying, how much better might your $260k perform in the markets over time? Here's another big unknown.

We ran the same analysis for 1417 Elm (5br/5ba, 3000 sq. ft.), a stunning, newer Tree Section home that's offered at $2.049m but also newly posted for rent at $8,500/mo. At full price and with 2% annual appreciation, it's better to rent Elm for 10 years; at 3% per annum, the switch flips after 5 years. (Disclosure: We recently toured clients thru 1417 Elm.)

As we said up front, the rent/buy decision usually isn't about numbers, but that real estate agent sure had it right: Right now, for some properties, the equation clearly favors renting.

----------------

For current rental market info, today only (8/24), you can get free access to WestsideRentals.com by inputting "Money101" as both the username and password. We got that this morning during Dave's appearance on KFWB's "Money 101" program.
comments powered by Disqus