There’s no doubt about the fact that you’ll find the comment “I can’t believe your rent is so low!” under my income and expenses reports the most. As someone who tries to min-max his way towards financial independence I obviously try to keep my rent as low as possible. Because my rent-to-income ratio remains below 20% I succeed at doing so, if I may say so myself. However, many of my friends disagree with this approach and believe I should buy a home as soon as possible. Are they right?
The rent versus buy debate clearly is a very lively one because it applies to everyone. People need homes to live in, some exceptions notwithstanding, so you can bet on it that everyone and their dog has an opinion on the matter, often without good arguments or data to back up their claims.
Because I think highly of our community members when it comes to personal finance and rational thinking, I thought it a good idea to ask you guys on the matter. To some home ownership is a clear part of the financial independence strategy, while others believe renting gives them much needed freedom and better financial prospects far into the future.
So, how do you feel about renting or owning your home?
I’ve been going over the benefits and drawbacks of ownership the past few days, both financial and otherwise, and have come to the following conclusion: to me, renting makes more sense from a financial point of view, whereas buying my own place to stay affords me more security over the long-run.
I guess that’s not the clear answer I was looking for! Let me explain though.
Let’s assume that my monthly expenses remain the same except for the housing portion of the equation. In the first scenario I’ll continue to rent my current home together with my roommate. We both enjoy a spacious room, a fully-equiped bathroom and kitchen, and enjoyable living quarters for the price of €350 each. In a second scenario I decide to ditch my roommate and buy my own apartment. Last but not least, being the financial wizard I am, I’ll also come up with a third scenario where I buy an apartment and have my roommate rent one of the rooms.
To be clear, I’ll be putting 20% of the home purchase price down so I can enjoy the lowest fixed interest rates available. I’ll furthermore try to pay off the apartment in 15 to 20 years, which isn’t too bad all things considered. The price of a one bedroom apartment hovers around €250,000 including all taxes and fees in my area, while a two-bedroom costs about €300,000 at the very least.
When working Excel’s magic that gives us these numbers:
|Rent current home
|Buy two-bedroom (roommate)
|Free cash flow
As you can see, there’s a huge difference in available cash flow each month. Even though my expenses are low, my monthly savings would be reduced to less than €500 on average if I were to purchase real estate. That’s only one third of my current savings potential! You can already guess what that means for my future dividend income.
Spoiler alert: I can forget about financial independence in 15 years’ time.
We should nevertheless look at what ownership does to our financial situation over the long run. In a world without inflation, no real estate appreciation or home maintenance, the best option after twenty years would be to buy a two-bedroom and have a roommate for twenty years. That’s because you get the following numbers when considering a 5% annualised return every year on excess income:
|Rent current home
|Buy two-bedroom (roommate)
|Total net worth
Of course, I’ve assumed quite a lot and things will most likely play out differently due to external factors, but it’s clear that renting my current place isn’t such a bad deal at all. Two things are clear as day to me.
First, ownership in Belgium is an extremely expensive option to pursue in my area because the housing prices are through the roof. The OECD seems to confirm this with one of its recent studies in which it stated that the price-to-income ratio is by far the highest in Belgium. Note also that the housing price-to-rent ratio is on the upper end too, which seems to confirm my thesis that renting a home is relatively cheap over here.
Second, by taking on a mortgage this early on in my life I’ll be forgoing the power of compound interest for the potentially added security of home ownership in the future. When you take on debt to the tune of ten times your annual net salary that should come as no surprise, but it’s something many people tend to forget.
When all is said and done I remain a big proponent of home ownership for most people, simply because it forces them to build some equity. The monthly mortgage payments make it so that after fifteen to twenty years everyone at least owns their own place, which irronically is the reason why housing is so expensive in Belgium.
Even though I’d love to own my own place, which I’ve mentioned as recently as two weeks ago, I don’t think it’ll happen in the near future. That’s too bad, but renting also provides me some tangible benefits that home ownership doesn’t. Geographical independence, less time spent on home maintenance, and less financial risk are only three of the many advantages of renting.
These three things tie back to one simple principle: predictability. A renter never has to worry about the heating breaking down or the roof leaking, and their subsequent repair costs. Because those costs are carried by the landlord they’ll never strain my monthly budget. Apart from rent increases due to inflation I’ll never have to worry about significant jumps in housing costs.
After I’ve explained my position and predicament do you still feel strongly for either renting a place or becoming a home owner? Please share your view in the comments as I’m eager to learn other people’s views on this topic!