Why All Rent vs Buy Calculators Give You The Wrong Answer
Looking to buy a home? The first think you might do is google “rent vs buy calculator”. After all, you want to know, should you rent vs buy? An easy tool to tell you would make your life a lot easier. There are many to choose from. My favorite is the New York Times rent vs buy calculator for its ease of use and nice look.
You want to make a smart choice, and you want some help getting to the right decision. Plus, there are a lot of articles out there saying that renting is better, and just as many saying that buying is better. What’s the best way to know which is right for you?
While they remain popular to use, years spent on digging into the math for homeownership has showed me that rent vs buy calculators are asking the wrong questions. Which means they’re not giving you the answers you need.
Here’s why.
Not all homes are the same
In rent vs. buy world, all homes are the same. Whether you buy a 100 year old house in Peoria, Illinois or a brand new condo in Seattle, Washington. In reality, one home may appreciate in value quickly and one won’t. One may have tens and thousands of dollars worth of repairs in your first five years and the other might not.
Both of those levers independently have an impact on whether a home is a sound financial investment for you.
Result: The benefit of buying in increased net worth from appreciation, and the cost of owning due to maintenance can be off by tens of thousands of dollars when using a rent vs. buy calculator.
The tax assumptions are always wrong
Taxes related to homeownership are complicated. Because of this, rent vs. buy calculators dumb the subject down. Most assume that you will get to take the mortgage interest deduction, for example. In reality, you can only benefit from the mortgage interest deduction if you itemize, and only 21 percent of filers currently use the tax break. According to that Tax Policy Center, post-tax changes, that number was expected to drop to about 4 percent.
Due to tax law changes, other things that used to be deductible may not be as much or not at all, depending on your situation. For example, property tax deductions under the recent tax changes are capped. And, if you don’t itemize, well then, fuggedaboutit (a little Brooklyese for ya).
On the other hand, there may be reason why your tax situation drastically improves from homeownership that you won’t capture from a rent vs. buy calculator.
Plus, many rent vs. buy calculators aren’t updated regularly (the New York Times page URL says 2014, for example) so they will contain out of date assumptions.
Result: Rent vs. buy calculators present a dumbed down and inaccurate view of tax issues.
The assumptions around renting are too generalized
How much will your rent increase per year? Who knows?
But, in order to use a rent vs. buy calculator, you’ll need to come up with a percentage.
Before I owned a home, my rent would increase at different rates depending on the economy. One year, it went up a whopping 10%, and for a few years in the late 2000’s it stayed exactly the same.
Also, if you notice, most calculators don’t ask you what your rent is today. There’s an assumption made that a home that costs a certain amount equates to a certain amount of rent. But, for most people, you might be moving to a different type of property. Maybe one with an extra bedroom, or a house instead of an apartment. You aren’t really comparing apples to apples, even though the rent vs buy calculator forces you to.
Result: The realities of renting can be totally skewed.
Rent vs buy calculators don’t take into account your important expenses
Maybe now when you are renting, you aren’t thinking so much about putting money away for for your kid’s education because, well, you’re renting and don’t have kids yet. You can change the equation the next time you decide not to renew your lease.
But, when you are committing to buying a home, you’ll be locked into a particular equation. So, it’s important to think about the other things that you want to have room for, to build the future you want.
Result: Can’t build in expense for other goals in your life to the equation for your future financial needs.
A better way
Sure, rent vs buy calculators are simple, you just move a few sliders around. But here’s a method that’s not too time consuming and will get you much better results.
First, answer the very important question: “Why do I want to buy?”
Homeownership is a lot more than just numbers. You’ll be repairing your own stuff, for example, or paying someone to do it. No more calling the landlord. The landlord is you!
Not sure if you want to stay where you live for a while? Renting is going to be your best choice.
Or, maybe you are very particular about your surroundings and you simply can’t stand living in a rental apartment or house where you can’t change the appliances or floors.
Some people feel really drawn to homeownership and some don’t. It’s a deeply personal choice, one based on emotion and lifestyle interests.
For some, owning a home is heaven. For others, it’s hell. Spend some time figuring out for sure what type of person you are!
Answer the key question: “What can I afford?”
“What can I afford” is a much better question once you’ve determined if homeownership is a fit for you than “Rent vs. buy”. After all, buying a home is a long term commitment. Unlike with a lease, if you find that you can’t afford it, it’s not that simple to move quickly. You can find yourself in a situation where you can’t afford your mortgage, and that’s a scary situation to be in which you’ll want to avoid.
Plus, deciding on what you can afford lets you factor in all sorts of costs for your future, like, how much do you want to set aside to build a retirement fund or education fund? How much you want to set aside for travel and lifestyle desires? All the things that make your life pleasurable and secure.
Compare costs. Real costs.
You know your current financial situation renting. After all, you live this reality every day. Start by making a list of your current expenses.
Next, do some real house shopping. Use any of the online home shopping sites, like Zillow, to find properties that fit the type of home that suits your needs. They generally have a monthly mortgage payment listed that you can use to build a comparison scenario.
Then, do a real cost analysis of it, such as what you’ll find here on doing a true cost analysis. That’s how you know how much any individual home will cost you. No, you won’t necessarily know how much a particular house costs in maintenance, but you can use good estimations. When it comes time to really shop around, you’ll want to dig deeper and compare properties to get the house that makes the best investment for you.
Is it too expensive, given your other dreams? Find a less expensive property that better suits your needs.
Talk to a tax professional
Many people assume that they have a tax advantage from owning a home, and you very well might. But, you really won’t know until you have a professional compare the scenario of your current tax filing to one where you are a homeowner.
You can get a tax professional to give you some well informed ballpark figures on how homeownership will impact your tax situation for as little as $300. Here’s what you’ll need: a copy of your most recent filing, the estimated monthly payment for a mortgage that you would get that fits your budget, and an estimated property tax amount for a home. To get an estimated property tax amount, you can surf Zillow or other similar sites, and look at homes in your range in the same city you plan to buy in, as property tax generally applies similarly to all homes within an area.
Conclusion
Don’t rely on a calculator that has all sorts of hidden assumptions to tell you whether to buy or rent. First, figure out whether homeownership is right for you, and then, using real numbers and taking into account your goals, figure out what you can afford to do. Compare it to a real life rental situation, and, voila! You’ll know the answer.
For a step by step explanation of comparing a current rental situation to a homeownership situation, download our Top 10 Home Buyer Secrets which walks you through the process step by step. You’ll learn 9 other insider tips that can save you thousands, if you decide to own a home.
Also, consider buying a copy of my book, Avoid the Money Pit, Turn Your Home Into A Financial Powerhouse. In it, you’ll find all the latest research into the financial outcomes of homeowners. Also, you’ll learn how to avoid some of the biggest expenses that homeowners never see coming, and how to maximize your investment for the biggest returns.
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