Rent vs. Buy

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Submitted by NotCranky on November 21, 2007 - 7:51am

There have been a few threads lately where rent vs. buy has been discussed. I always see PITI, maintenance,Mello Roos(mellow ruse as I like to call it), opportunity costs, etc. When do you rent Vs. own type piggs start to consider principal paydown?

Obviously depreciation is a bigger concern currently. However, with the price tags on the houses we discuss around here and even for the median SFR, the monthly principal pay-down is significant, starting at payment one.

What about the other financial factors usually part of a rent vs. buy discussion? For instance, fixing the cost of shelter and having the possibility of paying it off as compared to needed to pay future inflated rents?
Obviously I am thinking long term. Maybe that is just out the window in this day and age?

In any case, Alex Angel and I would like to know ;). I am going to take the little Rusticos out for half of the day so I can't respond anytime soon. Thanks in advance for any contribution.

Submitted by Raybyrnes on November 21, 2007 - 8:41am.

Rustico

I always consider paydown on a home when I run my numbers. But to try and keep things apples to apples I go back to more of an interest only model. Therefore I turn the House as a capital cost into shelter as an operational cost. Additionally, the interest rate environment that we are currently in make it less opportunistic IMO to pay down the mortgage.

With respect to rising rents I personally am not seeing it. I have lived in the same apartment for 5 years and have not seen a rent increase. I also do not confront the difficulty of transaction costs which I typically either marginalize in the models that I use or include tranaction costs in the capital costs.

What I do find tough about renting is that there are things that I would like to chage about the place and I am reluctant to put money into something that has 0 return. Therefore you have to accept a "make do" mentality. From that standpoint there is definitely some psychological value to owning and controlling your environment. But this only becomes a factor as the rent buy speads get closer together. Right now they are still pretty far apart.

Submitted by sd_t2 on November 21, 2007 - 1:09pm.

But also... don't underestimate the effects of entropy - flooring and carpets do wear out and you're on the hook for upgrading them.

My $0.02

Submitted by NotCranky on November 21, 2007 - 3:26pm.

"With respect to rising rents I personally am not seeing it. I have lived in the same apartment for 5 years and have not seen a rent increase. "

I think it is more appropriate to use historical data regarding rent inflation going at least 30 years back. I personally never raised rent on a mediocre tenant let alone an excellent one, like I am sure you are.I know many landlords are like this.
I have a friend who was renting on a 1 bedroom on Cable in O.B. for $65 in 1990 when he finally decided to buy because his landlord was in a coma and going to pass on.Going rent would have been $375 or so. I imagine that to be around $700 rental now. His mortgage, PITI, on his house in Clairmont is about 1/2 going renta and he had to watch his vlaue go from 162 to 110k shortly after buying.This is after refinancing ot a 15 year after acouple of years in the place too. Five years is just too short of a time frame when standard home loans are 30 years and we live for about 50 to 70 years after entering the housing market in one form or another, 30 or more of which could reasonably be done mortgage and rent free if one eventually buys vs. renting and investing.Yes, I know there are other expenses to ownership. If you say 1% for maintenance mine is about 7.5K annually at current valuations, insurance 1k, taxes 4k, at full valuation 8k if someone were to buy it today. That is a little over 1.5k worst case scenario for a house that would rent for 2.8- 3k per month.
In any case, I was trying to put the emphasis on long term thinking with my post because, aside from flukes like the recent boom, that is really how RE has worked to personal financial benefit. If it ever works again I would guess that this should also be the way.

I think,after considering the discussions here, that owning and actually paying off shelter, after finding a reasonable entry time vs. renting an equvalent property and investing is too close to call, generally speaking, to make it reasonable for many people to forgo ownership and all its potential satisfactions.Again, I am taking the long term position.I know you have examples of shorter term stituations that have played out as a clear winner for moving equity around. Nothing wrong with that. There are short term examples for flipping multiple houses and eating tons of aquistion, holding and sale costs and still making tons of money too.

Submitted by Raybyrnes on November 21, 2007 - 4:29pm.

Rustico
One of the consideration of owning was the fract that you also figured that you would get a job and be ther for the next 20 years. Nowadays you ahve to be flexible with work and for the most part need to be able to relocate. When this is the psychology even when you own the place it feels like you are a renter.

Submitted by NotCranky on November 21, 2007 - 4:58pm.

Yes I am aware that this dynamic you speak of needs great consideration. Actually thought of going into it but my other post was much too long already. Are we really just too mobile and unstable occupationally for housing ownership benefits as have been achieved in the recent past? Maybe we ought to change private property laws and pack a yurt on top of the family car? Or just rent :).

Submitted by NotCranky on December 8, 2007 - 3:05pm.

I think it is a good idea to start a new thread. This one isn't drawing them in. The board is always slow on weekends so you might bump the thread up a couple of times to try to get more feedback. I'll put my .02 in however you want to do it.

Submitted by NeetaT on December 8, 2007 - 4:08pm.

I have a personal example for you. My rent is $1,200.00 a month. If I were to buy the place, it would cost me $300,000.00 cash. I don't borrow money so that is why I give a cash example. Not counting closing costs and the 3%-6% usurped from me by the realtor when it comes time to sale, the expenses to own are as follows: $250.00 a month for property tax, $200.00 a month for HOA, $100.00 a month for insurance, $20.00 a month for misc. maintenance. Right off the bat you are down $570.00. Now let us do the math.

Own: (-) $570.00 per month

Rent: Interest on $300,000.00 at a meager 5% after taxes is $1,000.00 a month worst case.

Rent = $1,200.00
-$1,000.00
= $200.00 a month out of pocket

Own = $570.00 a month out of pocket

The deference appears to be $370.00 per month cheaper to rent. Now I know this was over simplified math, but I don't think it is far from the truth. This does not take into consideration the possible appreciation or maybe even depreciation or the variables I mentioned earlier. The bottom line is I don't feel bad renting. Please let me know if I am using voodoo math or if I have left something out.
I think the disparity gets even bigger if you do the comparison on getting a mortgage.

Submitted by SD Realtor on December 8, 2007 - 6:00pm.

DGH I believe Santee is going to continue to run downhill pretty hard. Outlying areas including Santee, Lakeside, Escondido, El Cajon, etc will get rammed pretty hard through 08 and 09. My advice would be to sell as well. If you are going to purchase from your sibs then yes, get a termite inspection, get a physical inspection, do as much as you can to build in a cushion because it is not a question of will the home depreciate, it is a question of how much and how long it will go on.

SD Realtor

Submitted by NotCranky on December 8, 2007 - 8:56pm.

Hi DGH,
I have torn many a house apart for remodels and additions. From this experience I would not think termites on the house you are describing could have a very detrimental effect. Neglect, dry rot and cheap/poor construction would be more likely a cause for expensive defects. I am not saying termites can't do some damage and I guess what is serious in one person's eyes is minor in an other's. Most termite issues are discovered in remodels and repairs and get fixed as they are exposed and the life of the house goes on. Until then, they get treatment occasionally and superficial repairs. Termite work to get a house through escrow is superficial and a ripoff most of the time.It also does not have to be automatically included in the sale.

I think your issue with keeping or selling the house for other reasons is little more complex. My instincts say. Why not start new just to have more ability to exercise your freedom of choice. Learn more about the market meanwhile. If you were going to get the house at an obvious discount then maybe that opinion is out the window already. Be careful to avoid effectively buying your siblings out at a higher price than the property is worth or face accepting depreciation all by yourself. I have seen this happen recently and it is unfortunate to say the least.

Try to put a cost comparisions picture together. Taxes, commission or avoidance of them etc. We don't know how dealings with your siblings would proceed, so IMO,can't really advise. You didn't mention any emotional attachment to that particular house either so maybe that is a factor? Good luck.

Submitted by patientlywaiting on December 8, 2007 - 9:13pm.

Rustico,

My parents house is 20 years old. They bought it brand new and never had termite work of any kind. Do you think that an inspection/tenting is needed every so often? He just asked me about it the other day.
There's some sandy thing (termite droppings?) on the concret patio at the base of the slab.

Thanks.

Submitted by temeculaguy on December 8, 2007 - 9:38pm.

Neeta, the part you are overlooking is the income tax benefit. All our tax situations are different so I'll use a generic one. Lets say you earn more than 80k a year, that 1000 a month in interest you are earning lands in top of your bracket so lets average it at about 30%, so you are left with 700 actual income. Then the property taxes you would pay would knock off income at the top of your bracket so a third of it would come back to you, lets say another 80 a month. Since the difference was 370 and tax wise you benefit 380, you are $10 to the good and you wont have any rent increases and can benefit from appreciation. So the real bet is on the appreciation, don't feel bad either way, all investing is like a casino, where do want to place your bet. Right now the odds are against apreciation and in favor of depreciation so you are now in the same boat as the rest of us reverse flippers, timing your exit from the rental world and trying to predict the future. The disparity doesn't get that much bigger with a mortgage because of the tax offset however 1200 rent for a 300k property is fundamentally still in favor of renting. 2000 rent on a 300k buy is the break even point in my book, so be thankful you are you and not me because my 2k rental can be had for 280k and I'm still not jumping.

P.S. you were very conservative with your interest estimates so I was equally as conservative with my tax estimates, both are likely to be higher and the only way to truly know is to run scenarios with your money on some tax software.

Submitted by NotCranky on December 8, 2007 - 9:50pm.

I do think treatment makes some sense. I am more up on the construction and real estate related issues than prevention.

There are evidently two types of termites or perhaps it is two different life stages of the same critter. In any case, there is the subterranean type, these live in the mud and crawl up the walls to eat the studs and those that fly into the attic and such places and enter unpainted or poorly maintained trim areas, under roof shingles etc. Sounds like you might have the subterranean type at the patio. You want to kill them for sure. I have poured bleach in the nests and any accessible areas and believe to have set them back a little that way. I think, but am not sure, that with the nest destroyed the guys left in the wall die.

It might not be a bad idea to have your parents get a couple of inspections, w/o tipping off the termite co's chosen, that you are getting more than one inspection .Unfortunately, the public, including myself, is at a bit of a disadvantage when it comes to dealing with termite companies. The inspectors evidently have x-ray vision and can see dollars in the walls. Kind of kidding, you just have to watch what they are doing and ask for complete explanations.

Submitted by NotCranky on December 8, 2007 - 11:25pm.

You are not crazy. You just need some time to work it out.These thing are very complex and you are making it into a good learning experience with appropriate doses of caution. Nobody in your shoes could do better.

Submitted by 4plexowner on December 9, 2007 - 8:37am.

DGH - a buyer (you included) won't be able to obtain a good mortgage without a termite certificate - selling the property 'as is' most likely means you are dealing with an investor who is going to expect a significant discount for the 'as is' condition - at a minimum you are raising a red flag that the property has issues

much better IMO to get a good termite inspection, address any issues found and obtain the termite certificate before putting the property on the market - since most buyers are going to need this cert anyway you should have it in hand

the termite inspector is going to poke at all the exterior wood (trim, window sills, fascia, etc) with a blunt tipped metal rod - if he finds any soft or mushy wood he is going to call this out on his report and he is going to look even closer at the area in question - you can do this inspection as well and fix anything you find - really bad wood should be replaced but you can repair a lot of damage with wood filler - wood filler is an acceptable repair so you aren't hiding anything from the inspector

the inspector is also going to go into the attic and under the house if it is accessible - he will be looking for damaged wood and signs of termites - he will also call out any water damaged wood he finds

if the property hasn't been tented in several years I would assume that tenting will be required - in socal it is better to assume that you DO have termites than that you don't because it is quite likely that you do whether you realize it or not - fortunately for us the local termites don't eat much and we can stay on top of them

anyway, enough on the termite issue - get the inspection so you know where you stand

~

seems like the cleanest thing to do is sell the house and let everyone share the results now - there are too many ways for hard feelings to arise in the future if you keep the house - let's look at two extremes:

1. you keep the house and house values drop to zero in 2008 - now your siblings feel bad because you are stuck with a worthless asset and they got away clean - you feel put upon because you knowingly bailed out your siblings but you weren't expecting the bailout to be quite this large

2. you keep the house and the Paulsen/Bush/Hillary Plan somehow causes housing prices to double in 2008 - now your siblings are jealous and might even decide that you tricked them into selling the property at a lowball price

think long and hard about keeping the house - you will know these people for the rest of your life

Submitted by 4plexowner on December 9, 2007 - 9:08am.

Rustico - to adress your questions - I was taken aback by your comment "monthly principal pay-down is significant, starting at payment one" since that isn't my perception at all - I guess it is all relative

Here are some numbers on a $475K mortgage - 30 yr fixed at 7% - monthly payment $3160 - $389 principle and $2770 interest - at the end of 10 years the principle portion of the payment reaches $777 per month

I don't consider $389/mo 'significant' when talking about a $500K asset or in comparison to the $2770/mo interest payment so I have always ignored the principle paydown when doing cashflow analysis - this may be a weakness in my analysis - on the other hand, very few loans these days are conventonal fixed-rate so principle paydown is rarely even talked about - I have a 10/20 IO loan on my property so I'm not paying down principle at all until 10 years after the loan originated

Submitted by NeetaT on December 9, 2007 - 10:05am.

temeculaguy,

"The tax software"

I think that will be my next step.

Thanks!!!!!

Submitted by NotCranky on December 9, 2007 - 10:12am.

4plex,
Compared to 1% for maintenance, The average HOA, or home owner's insurance, which are also being included in rent to own calculations it is relatively significant, so I don't see why it is missing. I am not saying it turns our situation with this market around or anything like that.

"on the other hand, very few loans these days are
conventional fixed-rate so principle pay down is rarely even talked about" -

Yes that is another factor. When I see people do rent vs. buy calculation on this board they generally use fixed notes for the sample. At least, that is how memory of it goes.

Since my mode is primarily going to be a sweat equity mode you bet I will use a loan similar to what you have. I have said too many times how I am mortgage free. I don't think that will be for long as I am gong to get some dough to build another house. Maybe I will post a thread on that and get some advice. Cash flow is of prime importance since I don't pay myself much to work, not paydown.

I will be honest I don't take a very scientific approach to anything. I will try to get cash flow properties, by sweat equity, where necessary and if the parameters we live in don't change completely, get paid for my efforts in my retirement.

On the topic or apologies, while I don't feel either of us has a thing to apoligize for I hope that you can try to overlook that I probably do the equivalent of "talking shit", like many blue collar guys do between themselves.I am talking about the ones that stay friends despite the "shit talking". I don't mean to alienate anyone by it and I also will try to cool it, knowing that most piggs are probably used to dealing a little more with a polite society type exchange,which I can't stand. I won't be able to stop being opinionated or throwing out things that are contrary to other peoples opinions. I will try to do it more politely.

Submitted by SD Realtor on December 9, 2007 - 11:29am.

4plex -

As sdrealtor corrected me on this issue, I will correct you regarding the termite clearance. Lenders do not require a clearance unless the buyer requests a clearance in the purchase agreement. (fact that sdrealtor posted and I did verify)

As far as the transfer goes, since the home may be a transfer of some type by relatives there "MAY BE" an exlcusion you can take advantage of to escape a reassessment however that is PURELY SPECULATIVE on my part.

My main concern is the location of the home. I have been out to Santee and Lakeside alot over the past year and I have watched it come down hard and I really do not see much respite as the downtrend continues. I know there are alot of emotions involved with family owned homes so that is always a tug in the other direction. If you get a good deal on it and can cash flow it positive then perhaps keeping it is a good way to go.

I would indeed get the termite work done just to get it done. Pretty much every home has drywood termites. If you have subt termites then that is bad. I know of many a home that has been treated unsuccessfully for subt types and it is a very tough process that sometimes requires recurring visits, drilling holes in the slab get to them, etc... I would guess you may not have these types. One thing you can do is pull up your carpet in spots and look around. Also check where there are areas of moisture such as shower drains and other things like that. The root of the evil for subt types are moisture under or in hairline cracks in the slab. If you pull your carpet up in a few spots and find them crawling around that may be a bad sign. If you see shavings (powder) from above on the ground it is most likely drywoods so no big problem there.

I am NOT a termite expert. Consult a qualified pest control agency.

SD Realtor

Submitted by 4plexowner on December 9, 2007 - 11:58am.

I've looked at prefab type housing from time to time - I don't have the skills to build from scratch but I can follow directions and use basic hand tools - I look at www.yurts.com and think about a much simpler lifestyle away from the big city - and then I remember kids and family and work etc ... and life goes on

many aspects of human communication are visual - body language, facial expressions - there's also the audio aspects of communication like inflection, pauses, rate of speech - all of this is lost in this blog - all we have is the written word to communicate with

the bantering that you refer to allows us to use all aspects of communication and it also allows for quick exchange of ideas - it is sort of like mental sparring and like you, I enjoy it and I might say things just to get a rise out of somebody (if you don't want someone to get your goat, don't tell them where it is tied!) - the written word results in slower and more cumbersome communication - ideas that might be explored in depth during a hallway conversation with the guys get lost on the blog because it is hard to put words down in print

and if it wasn't hard enough to put our thoughts into written words, we have to worry about having our ideas trashed as well as being the butt of ridicule and scorn - I have a perception that some people would post more (or post for the first time) if we could lessen the fear of being trashed and made fun of - that is what I am working on for myself - being slower to pounce but still having an expectation that data is required and that new ideas are easier to read when they are presented as "IMO" or "it appears to me", "in my experience", etc

as Chris Scoreboar said recently, we come here looking for new / different ideas so it benefits us to encourage as many viewpoints as possible

Submitted by 4plexowner on December 9, 2007 - 12:15pm.

I concur that termite cert is not required unless specifically requested by buyer - this is one of the many check boxes on the offer to purchase form - do most buyers check this box and require the cert? - does the typical agent recommend that a buyer require a cert? - seems to me that an agent exposes themselves to additional liability by allowing an inexperienced buyer to buy something 'as is' - of course 'inexperienced' is a judgment call - if I were an agent in the deal my disclosures would state that I had advised my client against purchasing the property without a termite cert (which might be part of why I'm not an agent)

Submitted by SD Realtor on December 9, 2007 - 12:32pm.

the typical agent recommend that a buyer require a cert? -

Any agent worth his salt should use a WPA, (in essence absolutely they should check the box 4plex) and there can be no argument about that.

4plex I was just correcting the comment about lenders requiring a clearance. (As sdr corrected me when I posted a similar comment). Not at all disputing the good judgement of requiring a clearance. I am in an escrow now where they gave us a clean report from 6 months ago. We kicked it back and the inspection completed last week showed infestation.

Couldn't agree more with you on requiring it.

SD Realtor

Submitted by NotCranky on December 9, 2007 - 12:43pm.

"many aspects of human communication are visual - body language, facial expressions - there's also the audio aspects of communication like inflection, pauses, rate of speech - all of this is lost in this blog - all we have is the written word to communicate with"

I was a sonar technician in the Navy. We sat boring watches for hours at a time in the dark. When on this blog, I often remember how people who sparred gleefully under the lights of the ship all day long would come to blows because they couldn't see each others faces or the body language while on watch. I imagine that the banter started off in the normal fashion and went down hill because of what you are describing as occurring here on the blog. I do agree that the effects of "cyber darkness" can be mitigated.

The blog also brings together people from different walks of life. Sad to say, IMO, we don't do that much in the real world so it could be somewhat of a shock on the internet.

The issue of when to stop typing and editing vs. the risk of being misunderstood are also big as you say.

I like the political and religious banter here because this can not possibly be an "echo chamber", on those issues, and I really like to think I don't participate along dogmatic lines. The age old rule of avoiding talking about those things in public seems to make sense at times,if nothing else, as a courtesy to those who don't care for it.I am not saying I am ready to quit as we can attempt to keep it isolated to "off topic threads".

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