Month: April 2014

How to come out ahead of house buyers when renting

I’ve just done a very interesting calculation tonight on my trusty rent vs buy worksheet.

Common wisdom says that you should rather pay a mortgage than throw money away on rent, no matter how expensive the mortgage is (after all, houses always go up in price right?).  Well here’s a nice example of why that doesn’t work so well when your country has a high interest rate compared to the US!

I am comparing a house valued at about $475 000 against a weekly rental of $490.  This is what we’re currently considering moving to! I had thought the rental very expensive taking into consideration the size (smallish) and area (lower decile schooling).  We are currently getting away with $415 a week on our current rental, but it’s quite far from work for both of us.  We should save about $50 a week on petrol, so it’s only a small bump up (Trying to console myself here, but anyway).

If we were to buy the house, we’d need to have a deposit of $95 000, selling shares to do so.  And leaving aside the fact that I would *never* sell all my shares just to invest in a single house… (Wow, the diversification on that would be horrendous!).

We would have to take out a 20 year mortgage to afford the monthly repayments.

Expense Monthly cost
Mortgage Repayment $2722
Interest repayment (part of mortgage payment) $1139
Rates and Body Corporate (if applicable) $158
Maintenance $148
House insurance $67
Total monthly cost (Buying) $3095
Total monthly cost (Renting) $2123

I’ve estimated the house would be worth $743,430 after 20 years, at a conservative 3% increase per year. If Auckland continues at 10% over the next decade then God help us all. 😉

With selling costs of $37600, that comes to $705,830 money in the bank at the end of it.
You’ve also actually spent a total of $653,385 paying off the mortgage.
So you could say you’ve come out ahead $52445, and you have a house/pile of money worth $705,830.

So the secret to renting is this…

And this is the key, because apparently not many people realise this or actually do it… Take the difference between what you would have paid on mortgage, rates and maintenance, and save it instead. Invest in shares preferably rather than stuffing cash into a bank.  In this case, the difference saved per month would be $972 per month, invested for 20 years.  Initial investment amount would be $95,000 (deposit amount that you still have), minus bond of $2000.

Compounded monthly, at a conservative rate of 7%, that’s about $884,897.08 at the end of 20 years. You would have spent $509,520 on rent.
That means you come out ahead $375,377 and you have a pile of shares worth around $884,897.

So some small tweaks that can affect these figures:

  • House price increases – could be a lot worse than 3% over the next decade and unlikely historically to be more.  Taking into account inflation it’s likely your house is worth not much more than when you bought it.
  • Stock market returns – very likely to be worse than 7% over the next decade since the market is a bit expensive at the moment.  But over 20 years we can expect to see 7% on average (Actually, I think it’s more like 11%, but taking into account *inflation* here.
  • We could move into a cheaper rental, or we could buy a shed or fixer-upper to save on housing costs.  It’s unlikely we’ll do either!  My husband doesn’t like the “Live in a RV” idea 😦

 

So what do we live on when we’re old and grey??

Well, firstly, you can’t eat your house. So if you’re banking on living on your house, you’ll need to save something every month anyway.

Secondly, that pot of $800k will be able to pay out about $32,000 (4%) if you have a mixture of shares and bonds. That will pay for a seriously nice rental!

Or you could move somewhere a bit cheaper, buy a decent house, and live off the rest.

 

Gaaah, I want a home to call my own!!

In the end, it’s a personal choice. It’s the luxury of knowing you belong somewhere, that you won’t be kicked out by the landlord, that if you dent a wall you can just not care.

I am right there with you, wanting a place of my own. But please recognise that renting is not throwing money down the drain….

… As long as you invest the difference!

Credit to my wise Dad for the advice, to myself and Excel for the calculations.

Also see:

Buy vs Rent comparison

Note this doesn’t take into account investing the difference!  In my case, it worked out renting is better than buying for less than 7 years.  After that we would break even.

Investment Savings calculator:

http://www.moneychimp.com/calculator/compound_interest_calculator.htm

Mortgage repayment calculator:

https://www.sorted.org.nz/calculators/mortgage-repayment

Rental/Buy price comparison:

http://www.trademe.co.nz

Or use local statistics – I couldn’t find any for my suburb so I used a 3 bedroom house for sale in the same area, compared with the rent our landlord is asking.