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Long-time renters may stress that they're "throwing away money" with every monthly payment. After all, homeowners get to build equity in their property every time they make a payment toward their mortgage. But does this mean one option is better than the other? It's not so cut and dried.
While buying a home can have financial benefits in the long term, it also comes with a whole host of additional upfront and ongoing costs (and headaches) that can make it more expensive than renting in the short term.
Buying a home and renting both come with their own pros and cons, and the best choice varies depending on your circumstances. Here's what to consider as you weigh your options.
When Does It Make Sense to Rent a Home?
Perhaps you've been told that you're better off putting your rent money toward a home purchase. It can seem like a more logical choice on paper, but renting is the more practical choice for some.
Benefits of Renting a Home
Renting doesn't allow you to build wealth in a home, but it comes with benefits homeownership doesn't offer:
- Flexibility: The main benefit of renting is freedom. Whether you move frequently for work or you're not sure if you'll like a new neighborhood, your home won't tie you down. Leases often only last a year, and if you need to leave sooner, breaking a lease is easier than selling a home.
- Minimal maintenance costs: As a renter, your landlord is generally required to take care of repairs for you. If you're a homeowner, all ongoing maintenance and repair costs are likely to come out of your pocket unless you have a warranty or experience a major issue covered by homeowners insurance. Even then, you may owe a hefty deductible.
- Easier to save: Renters also aren't responsible for paying property taxes or homeowners insurance premiums. If you opt to rent, bringing in roommates can bring your rent payment down to just a fraction of what a mortgage payment would be. Because short-term costs of renting are often lower than owning, it could free up money to shore up your emergency fund, pay down your debt, or to start saving for a down payment.
Downsides of Renting a Home
Renting a home can be a wise choice for some, but it does have some drawbacks:
- Lack of financial incentives: While it's not guaranteed that a home you buy will gain value, you certainly won't get back any money you pay in rent. Additionally, you can't take advantage of the tax deductions available to homeowners.
- Rent increases: Unless you're in rent-controlled housing, you may be subjected to regular rent increases. According to Apartments.com, a 3% to 5% annual rise is typical, though some state and local laws limit increases. At any rate, this increasing cost is out of your control and can make it difficult to budget—or even force you to move elsewhere.
- Less housing security: You may love your rented home, but your landlord doesn't have to renew your lease. They may want to sell the property or live there themselves, or perhaps they price you out with a rent increase. Overall, renting provides less stability and housing security.
- Minimal personalization: It's nice to have a landlord cover repairs and maintenance, but renting also means less freedom to make your living space your own. Updating bedroom floors or kitchen tiling might be trivial home improvement projects for a homeowner, but you likely won't be able to make these alterations in an apartment. Your landlord may allow light redecorating, such as repainting walls or swapping cabinet hardware, but you'll likely be required to return the living space to its previous condition before you move out. Failing to clear DIY work with your landlord could result in losing your security deposit.
- Unlikely to improve credit: Many landlords don't report rent to credit bureaus, meaning your positive rent payment history isn't likely to improve your credit. On the other hand, breaking your lease can hurt your credit. Plus, if you have unpaid debt and your landlord can't reach you, they may put your account into collections, which will seriously damage your credit. If at all possible, see if you can talk to your landlord about having your on-time rent payments added to your credit report.
What to Consider Before Getting a Mortgage
Buying a home is a massive decision in more ways than one. Not only do you have to find a home you'd be happy in, you've got to figure out how to pay for it. To determine if you're truly prepared for a mortgage, assess what you have saved for a down payment and what you could reasonably afford for a monthly payment. Make sure to leave enough room in your budget for savings, travel or any other financial goals.
When mortgage lenders review your application, they closely scrutinize your credit, so it's essential to check your credit report before shopping for a house. Your credit and other factors, such as your debt-to-income ratio, are important to lenders deciding whether to approve your mortgage application and what interest rate and terms to grant you. If there are blemishes in your credit history, it's best to work on them before applying for a mortgage. A lower interest rate could save you thousands over the life of your mortgage.
Homeownership can be truly rewarding if you know where your budget and credit stand and you've considered all advantages and drawbacks.
Benefits of Buying a Home
For those who can afford it, owning a house has major perks:
- Building wealth: Every mortgage payment builds your equity and brings you closer to full ownership. If your home appreciates in value, whether due to a hot market or desirable home improvements, you could enjoy a significant return when you sell.
- Tax breaks: Only homeowners can take advantage of property tax deductions and may be able to claim mortgage interest deductions on taxes. Since most of your monthly payment goes toward interest initially, a mortgage interest deduction could considerably cut your tax bill.
- Freedom to customize: Your home is your own, and you're free to renovate it any way you like as long as it abides by local building codes. Those improvements can also bump up the value of your home if you sell. Because there's no landlord looking over your shoulder, you're free to tackle projects on your own—even if it means gutting entire rooms and starting over if that's what you'd like to do.
- Potential positive effect on credit: Unlike rent, mortgage payments are typically added to your credit report since they're reported by your lender. If you consistently make on-time payments, you may improve your credit score. Plus, if you don't already have an installment loan, adding one to your credit mix can also help since lenders like to see variety.
Downsides of Buying a Home
Buying a home can be a beneficial long-term financial strategy, but you should be aware of the potential drawbacks:
- Costs beyond the mortgage: Expenses beyond a mortgage payment itself can add up quickly. There's a down payment, closing costs, property taxes, homeowners insurance, possibly private mortgage insurance (PMI), homeowner association fees, trash pickup, and so on. Repairs and maintenance can also get expensive fast, and with no landlord, it's all on you. Make sure you consider these costs when planning your home purchase.
- Potential decline in value: Home values often appreciate, but not always. Your neighborhood could become less desirable, or the housing market may see an overall decline. Years later, you might find that your home appraises for less than you originally paid for it. If you plan to live in your home forever, that may not matter, but if you plan to sell, there's no guarantee you'll come out ahead.
- Difficulty relocating: If something comes up that requires you to relocate, selling a home is a more complicated and expensive endeavor than ending a lease. You also may be responsible for paying closing costs, transfer tax, real estate agent commissions and other fees once the sale goes through.
Is a Mortgage Cheaper Than Renting?
In general, the short-term costs of renting are lower than the costs of buying a home. Taking out a mortgage usually requires a down payment (usually anywhere from 3.5% to 20%), plus all the extra costs mentioned above.
When you look at the big picture, a mortgage could be cheaper in the long run. That's because landlords often gradually increase rent annually, while a fixed-rate mortgage will have the same payments for the life of the loan (though taxes and other housing-related costs such as utilities can rise). That means that while a monthly mortgage payment may initially cost more than rent, after a few years, it could be cheaper than renting due to the tax savings and an unchanged mortgage payment.
If you later decide to sell the home, you can make money to put toward your next home. Better yet, homeowners who pay off their mortgage will see a huge reduction in their housing costs. As a renter, you don't build any equity, and the payments never stop.
Which Is Right for Me?
There are compelling pros and cons for both renting and buying, and what's right for any individual depends on their unique situation. Just because renting is cheaper in the short term doesn't mean you shouldn't consider buying a home, though leaping into a mortgage isn't always the right move either. You have to consider your financial situation and goals, the cost of renting and buying in the local real estate market, and the terms of a mortgage you can qualify for.
The current strength of your credit score is also worth considering, since better credit means more favorable mortgage rates and terms that can save you money. If you don't know where you currently stand, check your credit score and see if there's room for improvement.