The American Dream of owning a home – white picket fence included, of course – may not be all it’s cracked up to be for every American.
It sounds good in theory: purchasing a home saves you from wasting your money on a rental that you’ll never own.
But, when you think about everything that comes along with home ownership, you might find out that the costs of buying a home may far outweigh the benefits.
Here are a few explanations to answer the question: is buying a house a good investment?
To Rent or Not to Rent
For as long as you can remember, your parents, grandparents, college professors and bosses have all told you that renting a home is a waste of money.
Instead, you could put that monthly rent check toward a mortgage for a house that you’ll own one day. Even if you don’t plan to stay there for the rest of your life, you’ll build equity.
You’ve heard it a million times and it makes sense. Or, does it?
There’s a reason that home ownership has declined steadily now for 12 years: people can’t afford housing. Renting is, in many cases, easier than buying a home.
Once you begin delving into the costs of home ownership that don’t even include a mortgage, you’ll find that the flat cost of rent per month is much less of a headache than factoring the cost of this insurance and that tax.
However, owning a home does work out cheaper, usually, than renting.
The price of rent tends to increase more rapidly than the price of homes, mostly because there are more people who want a rental than there are rentals available. It’s a simple game of supply and demand for home owners who rent out their properties.
The Millennial Generation and Home Ownership
Our economy is having the biggest impact on our decision to rent or own. The American Dream of home ownership made a lot of sense in better times in our economic history.
About 68% of Millennials – the current generation most affected by the economy, wages, and inflation – say they’re stressed about finances to the point of making them physically ill. Only 51% of the Baby Boomer generation said the same.
Millennials are starting their careers at one of the worst times ever. Wages aren’t going up, but food, clothing, and housing prices sure are.
They also earn about 20% less than previous generations, making it nearly impossible to afford rapidly-rising rent prices or mortgage payments. Many of them are still dealing with ridiculous amounts of student debt.
Interestingly, about 40% of Millennials between the ages of 25 and 35 are actively saving to buy a home, despite their financial woes.
It’s a good attitude to have, but is it the smart choice for anyone who’s struggling to get, maintain, or build their credit while working for unfair wages and paying off thousands of school debt? What about purchasing something so permanent during an unstable time of your life?
The Truth About Investing in a Home
Is purchasing a home really an investment? Think about it this way: if you can’t sell your house for a significantly higher price than you bought it and put into it, what are you investing in, exactly?
For example, say you buy your home for $240,000 and you do some general repairs and upgrades totaling $10,000 over a 10-year period.
When you go to sell your home, you have it appraised for $260,000. That means that you get a whopping $10,000 back as an “investment.”
That equals $1,000 for every year you’ve had your home. When you add in all the other costs for home ownership, like property tax and home insurance, that you’ve paid in that time, $1,000 each year probably doesn’t even cover those costs.
Similar scenarios often happen with home owners. The truth is that you can never predict how much your home will be worth when you’re ready to sell it.
The housing market fluctuates constantly. All you’re really investing in is the hope that, someday, your home will be worth much more than you bought it for.
Looking at the Price-Rent Ratio
The benefits of renting versus owning a home also vary based on your location. A good way to determine whether it’s better to rent or own a home in your area, or the area you’re considering, is to perform a simple calculation called the price-rent ratio.
First, determine the average rental cost, per month, of homes in your area. For the sake of accuracy, try to look for comparable homes to average, such as moderately-updated 2-bedroom homes.
There are plenty of online resources that can help with this, or do some of your own research on realty sites. You can always call up a realtor and ask for the information, too.
Then, look for the average sale price of comparable homes in the area. Again, look for homes similar to the ones you for which you found rent information.
We’ll say that the average rental cost is $1,500 and the average home sale price is $325,000.
Multiply the average rent, $1,500, by 12 to find the annual cost of rent. In this case, it’s $18,000. Then, take the average sale price, $325,000, and divide it by the annual rental cost to come up with a price-rent ratio of 18.
A number from 16 to 20 shows that it’s risky to buy a home in that area. A number under 16 is ideal, meaning that it’s better to buy a home than rent because renting will, over time, cost you more money.
Above 20 is the danger zone, meaning that it might be better to rent than buy because rental prices in your area are likely cheaper than a mortgage and other costs. The lower the number you come up with, the safer it may be to purchase a home.
This is also a good trick to use if you’re considering a few possible areas in which to purchase.
The Hidden Costs of Owning a Home
When you look at the estimated cost of a mortgage versus the rent price for the same home, you’ll likely notice that the monthly mortgage price is less than the monthly rent.
That’s only a surface observation, though.You don’t take into account everything else that goes along with owning a home, and those “little” costs add up quickly.
That’s not to say that all the costs together will always be greater than rent. Again, this is where the price-rent ratio comes into play. But, it’s super important to consider all the additional costs. Here are just a few you might be forgetting about:
Insurances, Taxes, and Fees, Oh My!
Your home insurance, property taxes, and homeowner’s association fees (if any) can easily become almost as much as your mortgage, quickly making your monthly housing costs almost double what you expected.
Although most places collect property taxes semi-annually, it’s a good idea to budget for it monthly so that you don’t end up with a huge cost to worry about every six months.
Home insurance costs will vary greatly between locations. Some lenders also require specific coverages that others don’t, which can affect your monthly bill.
According to data from ValuePenguin, most homeowners pay somewhere between $60 to $100 per month for their insurance. When you sign with a lender, you’ll be required to carry insurance on your home – and it’s not something you should do without, anyway.
And, if you didn’t make a large enough down payment to satisfy your lender, you’ll also have to pay for private mortgage insurance, or PMI.
This insurance protects the lender in cases where you don’t have at least 20% equity in your home. This insurance could even work out to costing more per month than your home insurance.
Repairing and Maintaining
Do you have a good nest egg saved up to fall back on if your new home needs some repairs? If not, add those costs to your growing list!
One of the major downfalls of home ownership is that you don’t have the security of a landlord who is responsible for fixing the problems with your home. If having that responsibility scares you, then home ownership may not be right for you just yet.
Things can go wrong in your home unexpectedly. The water heater can stop working. Plumbing can crack and cause leaks. A big snow storm could leave you with a leaking roof.
If you don’t have money saved in the bank for unexpected repairs, you’ll need to get another loan, making you spend even more money each month.
And, what about maintaining your home to prevent it from damage? A good rule of thumb is to budget about 10% of your home’s value for general maintenance each year.
You can put it toward replacing a roof, adding energy-saving windows, or repairing a cracking foundation. It’s essential to have money available to maintain your home, and you’ll have to save this money somehow.
There goes some more money each month to put into savings!
Filling It Up
Possibly one of the biggest money-suckers associated with home ownership is the cost of the furniture to fill up the new house.
Unfortunately, too many people get caught in the idea of owning a home and don’t think enough into the future to figure out how they’ll afford the things they’ll need in the home.
One of American home owners’ biggest downfalls is buying more house than they need or can afford. According to AEI, today’s homes are averaging about 1,000 square feet more than they did about 40 years ago.
Yet, almost half of people polled said they regret buying a house that was bigger than what they needed.
If you don’t already have furniture that you can use to fill your home, you’ll have to buy it. Where is that money coming from, especially after you just paid a down payment, your first month’s mortgage, and closing costs?
Even if you do have some furniture, you’ll need more if you bought a house that’s larger than the one you lived in.
And then there’s all the money you’ll need to shell out to decorate your new home. Paint, curtains, carpeting, house plants, and wall décor are just some of the extra costs that need to squeeze into the budget somewhere.
Still Considering Buying? Put Home Ownership to Work for You
If you’ve done the math and you’re certain that home ownership is absolutely the right choice for you, then it’s time to make sure you’re making a good investment in the process.
There are a few important things to consider doing before and after you purchase your home to cut costs where you can to help your home work for your wallet.
Consider Your Future Plans
Do you plan to stay in your home for decades, or just want something for a few years until you can save more money? Your future plans should be one of the most important considerations in your house choice.
After all, if you don’t gain much equity in your home, you could end up losing money when you go to sell, if that’s your plan in the not-so-distant future.
One of the first questions realtors ask their clients is, “How long do you plan to live here?” That’s because there’s no point looking for your dream home now if all you really need is a starter home to act as a springboard for your future upgrade.
A good rule of thumb is to be certain that you’ll want to stay in your house for five years before attempting to sell it. That means that you should love the area and your home enough to want to stick it out for that long.
If not, you’ll be less likely to want to hit the five-year mark and you could wind up with a huge financial hit from your home because you haven’t built enough equity yet.
Buy Less House Than You Can Afford
I can’t stress enough the importance of not going overboard on your house. Yes, you want a house you’ll love. You can do that, though, with a tighter budget than you think.
Just because a lender approves you for $300,000 doesn’t mean you need to spend that full amount. Staying closer to $200,000 not only knocks off $100k from your loan, but it can also reduce your monthly payment by about $725!
So, now you need to determine your priorities. Are four bedrooms necessary, or do you just want a guest room? Consider sticking with only the number of bedrooms you need, and get creative in your home’s design to make more room elsewhere.
A cozy nook in the living room, for example, can make the perfect guest area.
A second bathroom can always come in handy, especially with kids in the home. But, if you simply do some tweaking to determine a good morning and evening bathroom schedule, you’ll likely find that an extra bathroom isn’t worth the extra money you’ll pay for your home.
And, there’s something to be said about a bit of a fixer-upper. It isn’t everyone’s ideal choice to buy a home that still needs work, but even mobile homes can offer a good ROI if you’re willing to put in some work and TLC.
Bottom line: don’t rule anything out. Spend time looking for a home for less than your top budget and you’ll likely find that you can get everything you actually need for less money than you thought.
That means that, if you plan to sell in the future, you’ll likely get a much better return for your investment.
Save Where You Can
Once you’re in your home, you should still focus on cutting corners. Just because you saved money on your mortgage doesn’t mean you should have the green light to spend frivolously on filling up your home.
Now’s the time to bargain hunt. Furniture is one of the biggest additional costs when purchasing a home, but it doesn’t have to be. Did you know that you can even get cash back from shopping for furniture online?
And with sites like Overstock, which offers liquidated home products, you can always find a varying selection of furniture at lower-than-retail prices.
Or, stick with Amazon, which, if you have a Prime membership, doesn’t even charge shipping on Prime-eligible products – usually a huge cost in itself.
The more you save on the stuff with which you fill your home, the better your investment will work for you in the long run.
Conclusion: Weighing the Pros and Cons of Home Ownership
There are obvious benefits to both home ownership and rentals. The truth is that neither one works for everyone.
Some people want the security blanket of knowing that a landlord is responsible for footing the bill (and much of the headaches) for repairs. Others want a place that they can personalize and maintain in their own way.
Some locations simply have affordable rent prices, whereas others cost double over the average mortgage cost.
A bit of research into the housing market in your area can help you determine what option is best for you, in addition to considering your future plans and how owning a home might fit into them.
Ultimately, your present and estimated future finances will be the deciding factor, so try not to ignore what your wallet tells you.