The aftermath of the housing market crash has shifted the demographics of homeownership. By April 2013, the homeownership rate in the United States had dropped to 65%, its lowest level since 1995.
The plodding U.S. economic recovery, tightened credit, and limited home supply has weighed on homeownership rates. In place of home purchases, single-families and 20- and 30-somethings have turned partially to rental units.
Today, demand for housing is high, both for rentals and home purchases. Limited supply continues to push asking prices higher. In the face of this challenging – and transitioning – market, we often hear the question: is it better to rent or buy?
Below, we approach the question with a few of the most important points to consider.
The market recovers
Easy credit helped fuel the housing bubble, and it also helped fuel the homeownership spike. When the bubble popped, foreclosure activity snowballed as the U.S. economy sunk into recession and more and more mortgage holders defaulted on monthly payments.
During the crisis years, home values plummeted, thus eliminating chunks of home equity. Homeowners lost 30-40-50% of the value in their homes and fell “underwater”, causing further short sale and foreclosure activity. From September 2008 when the housing crisis began, 4.4 million foreclosures were completed,according to CoreLogic.
Investors helped turn the market in 2011 and 2012 by purchasing distressed properties and turning them into rentals.
According to a recent article in Bloomberg News, “Private-equity firms, hedge funds and real estate investment trusts have bought more than 100,000 U.S. homes, becoming dominant single-family landlords in markets hardest-hit by the housing crash such as Atlanta. ”
Prompted by improved economic outlook and favorable affordability levels, single-family buyers entered back into the housing market by late-2012 and early-2013. There, they found stiff competition with investors and other buyers. Real estate inventory quickly depleted below the “healthy” six month average, falling to 4 and 5 months.
Part of the problem was that home building activity remained dormant during the “crash” years (2008 through 2012).
Today, families mulling homeownership are facing higher mortgage rates (though still historically low), rising home prices (though still historically low), and strong competition.
The rent side of the spectrum isn’t easy either. As potential buyers struggle to find a home, they turn to the rental market, where they find lower inventory, increased competition, and higher prices.
A recent study by Trulia found that rents had increased by 3.9% over the past year, ”a huge increase when compared with inflation.” What’s more, “incomes are not keeping pace with rent increases, putting renters in an even tighter position.”
To Rent or Buy?
Google the question “is it better to rent or buy” and the first result to come up is a New York Times infographic by that exact title. The chart allows you to compare the costs accrued from your monthly rent against a potential home purchase, including the home price, down payment, mortgage rate, and property taxes.
Let’s take a local example. Data on the San Luis Obispo Chamber of Commerce website estimates that the median price for a single-family home in SLO County is $360,000 and the median three-bedroom rent is $1,456. The chart assumes annual 3% home price appreciation, and an annual 2% rise in rent, which are about average on a national level over time (though currently fluctuations are much larger).
Under these average perimeters and an average loan profile, the NYT chart estimates that buying will have become a better proposition after eight years, when annual savings will begin to mount.
The Expert’s Take
The eight-year guideline is a rough one. In the housing industry, ever borrower is different. Central Coast Lending owner Jason Grote acknowledges this fact, and points out a few practical concerns.
1) Retirement planning.
“First and foremost, buying is one of the only ways that somebody can avoid a house payment in retirement. If you buy a house with a 30-year fixed mortgage around the age of 30 you can own your home clear by the age of 60. That takes the pressure off of retirement savings and ultimately requires less money to retire.
2) Mortgage interest deduction benefit.
Brrowers are able to deduct interest paid as a part of mortgage payments from their income. During the first five years of mortgage payments, about 25% of monthly mortgage payments is from interest (on average), which makes this deduction potentially substantial.
3) The intangibles.
“Owning a home gives you more freedom, security, and enjoyment of your property over the long term,” said Grote.
Renters run the risk of getting displaced.
“Having to move increases cost of living,” said Grote. “You don’t have ultimate control over the use of your property and your enjoyment is always dependent on somebody else’s approval of the property.”
Grote points out that there is another end of the spectrum. Homeowners are solely responsible for their home, which means increased maintenance costs.
Also, a home purchase requires a much stronger commitment than renting. Borrowers must plan for a down payment (although this is flexible depending on the loan program), and a reasonable expectation to live in one place over a long period of time.
Renting is flexible and requires less up-front money, but as the monthly payments add up, renters have little to show for their inputs, whereas homeowners have built up equity in a place they can call their own.
As we write before, every situation is going to be different. Give us a call at 805.543.LOAN to talk to one of our loan officers for a free, confidential, and honest assessment about if homeownership is right for you.