Tuesday, June 17, 2014

Buy vs Rent. Why we're okay with renting today.

Conventional Wisdom: "Renting is pouring money down the drain" 

We've rented a number of places, we've owned a few homes and we've speculated on a few property flips.  In two weeks from now we will be back to renting a home rather than owning one.  Now many people may assume that we rent because we don't have the money for the downpayment or that we can't afford the monthly payments that come with owning.  But with us thats not the case.  Since we don't view our home as an asset, we look at home ownership differently than most people.  We generally do not feel the need to own a house.  We do not buy a house believing it is an investment but rather a lifestyle choice.  Sometimes owning makes sense for us and other times it does not.  At present, we have chosen to rent because for our lifestyle, renting makes the most sense for us right now.  It also makes sense for us from an economic sense at this point in time, specifically around month to month costs.  In the future this may change and we fully expect that we will own a home again within the next few years.  But not now.

But what about all that money we're throwing away?  Well, I've done some number crunching on the specific house we are renting and I can tell you we are not coming out poorly by renting.  For other homes it may make sense to buy, but we would calculate these numbers on a case by case basis.  I'm only going to focus on the basic math around the rent/buy choice on a monthly cost basis and not around full life-cycle costs (which would include buying and/selling costs of a Real Estate transaction, capital appreciation, land transfer taxes etc) because many people have psychological reasons to either buy or rent and the metrics also change depending on how long you intend to live somewhere, whether prices go up or not, and how emotionally attached you  are to where yo live... so I will leave that up to you to decide whether those types of reasons and parameters affect you.

The House:
The house we will be renting is a 3 bedroom house in a very desirable neighbourhood within a half hour walk to the heart of downtown Kingston Ontario.  It is about a 5 minute walk to the nearest public school, and within a 20 minute walk to Kim's work.   We really like the area and we are prepared to pay a premium to live in this neighbourhood.  The property taxes on the house are $6750 a year.  Based on the property tax mill rate of about 1% of house value, and surrounding sales which are close to a million dollars, I would estimate the house has a market value of about $675,000 or more, which in Kingston is well above average.  We have agreed to rent this house for $2300 per month plus utilities.

So how much are we flushing down the drain each month by renting this house in this desirable neighbourhood?  Lets do a little comparison math:

To buy this house we would need to have a 5% downpayment which would be about $34000.  The remaining $641,000 would be mortgaged.  Since I would only have 5% equity in the house I would need to get CMHC mortgage insurance.  That would cost 3.15% of the mortgage price which would add an additional $20,000 to the mortgaged amount.  So the fully mortgaged amount would be $661,000.  If I had a larger downpayment set aside,  I could put the money into the house but I am not a fan of putting more money than needed into a downpayment... simply because I like my money to be in liquid form and bricks and mortar real estate is very illiquid.  If I get a 25 year amortized mortgage at the lowest 5 year mortgage rate today of 3%, I can pay a monthly mortgage payment of $3128 per month.   In the first year, about $1500 is going towards paying down the principle and the remaining $1628 is going towards interest payment.  As mentioned above the property taxes for the year are $6750 which translates to $562 per month.  If we bought the house, we'd need to have home insurance or we wouldn't be able to get the mortgage.  For a house of this size and value, I'd estimate it would be about $150 through our current insurance company although I may be able to get a lower rate elsewhere.. but I'll go with what my insurance company would pay.   A rule of thumb for general upkeep (painting, repairs, fix-ups, new shingles etc) of a house is usually around 1% of the value of the property... which in this case would be about $6000 per year or about $500 per month.  This number seems a bit high to me, but there are always things that a house needs that we forget to account for so I am going to leave it at $500 per month even though I think it may be more than what I'd likely pay.   This number is also dependent on the age of the house... older houses sometimes just need more upkeep... and this house is 70+ years old.  So to summarize, the total monthly cost to us after buying this house would be $4340:

During the first few years, about $1628 of the mortgage payment each month goes towards the interest cost, so one could make the argument that each month, the remaining $1500 is going back into your pocket in the form of home equity.  You would get that $1500 back if and when you sell the house assuming the house doesn't go down in value.  So if we subtract the $1500 from the Total cost, we get approximately $2840 that is NOT going to your/our bottom line but to either interest, insurance, property taxes or upkeep costs.  

Now of course there are other monthly costs such as utilities, but I have to pay them each month whether I own or rent so I didn't include those.   Don't forget that if we bought we also would have had to front a $34000 downpayment... so there's also that cost and time that we'd have to consider.  Thats $34000 that isn't in my pocket or investment account.  

So contrast the $4340 (or $2840 if you prefer) with the monthly $2300 rental cost of the exact same home, without having to come up with $34000 downpayment up front and I think we're doing well to rent.  As an aside, if I had a potential $34000 downpayment and wanted rather to invest in Real Estate, I could put it into Killam Properties (KMP on the TSX).  They own and operate apartment buildings and manufactured home communities and the stock currently pays a handsome dividend of about 5.75% per year.  The stock is very liquid and I could sell it at virtually any time which is very different than owning a physical building.  If I bought $34000 in KMP stock, I would collect $1955 annually in dividends or about $162 a month that I could apply to my rent cost if I chose to do so.  If I did apply the $162 monthly dividend to the rent cost, it would lower my rent cost to $2138.

So on a month to month basis, the rent of $2300 comes out better than the $4340 (or $2840) monthly costs involved in buying/owning by about $2040 (or $540) per month.  The winning option, with respect to monthly costs in this comparison is renting, yet it is not so cut and dried in there grander scheme of things.   For our current needs we think we're coming out ahead by keeping the deposit in our pocket and renting this attractive house in this sought after neighbourhood.


  1. To bad you didn't include land transfer tax, lawyer fees and real estate fees when you sell to show the appreciation you would count on to get back that original $34,000 investment. Still simple math but this article is still very well written and informative. Kudos

  2. Thanks Will. You're right, there are lots of added costs that need to be considered when buying. For this post, I just wanted to focus mainly on the regular monthly costs mainly for simplicity's sake. All those one-time costs at the beginning (land transfer tax, closing fees, survey costs) and at the end (realtor fees etc) can really eat away at your perceived equity.