You face a choice between renting or owning many of the essentials you use every day: your home, your car, even furniture and appliances. So is it better to rent or to own? It's a question of economics, but the economics come down to your lifestyle.
There is no set answer to the question of whether it is better to rent than to buy, because the cost of each depends on a number of variables:
- Rent. Unless a very long-term lease is involved, you may want to factor in some increase in rent over time.
- Ongoing expenses. For homeowners, these include property taxes, insurance, maintenance and so on. Keep in mind, though, that renters may have ongoing expenses too, depending on what is included in the rent.
- Interest rates. Assuming a borrower is financing a big-ticket purchase, the interest rate will add to the cost of buying.
- Initial price. This should include any closing costs necessary to initiate a purchase.
- Resale value. This is any residual value a buyer expects to get when finished using the item.
You can do a cost comparison based on all of the above, and there are calculators available that will help you do so. However, there is one more important variable only you can decide: the time frame over which to make the comparison.
The Importance of Timing
If the economics of renting vs. buying can all be laid side by side, where does lifestyle come into it? Your lifestyle will determine how long you will want to hold onto the item in question or move on to something new. That time frame in turn has a major impact on the economics.
The cost of ownership has a great deal to do with the difference between the initial price and resale value. That difference tends to steepen sharply over short time periods and then smooth out over longer time periods.
For automobiles, for example, the fastest depreciation is said to happen as soon as a new car is driven off the lot. After that, depreciation occurs more steadily over the useful life of the vehicle. A similar depreciation pattern is true of many other major purchases.
For housing, the pattern is a little different, but the economic result is similar. A home may appreciate rather than depreciate in value over time, but effectively the resale value recouped by a seller is the equity in the property, not the total sale price. In a typical mortgage, interest makes up the lion's share of payments in the early years of the loan, with principal growing to represent an increasing portion of those payments over time. Thus, barring any sudden price fluctuations, equity builds slowly in the early years and then more quickly later on. If you add in closing costs, once again the economic hit to a buyer is greatest at the very beginning.
Therefore, while all the economic variables listed above influence the rent vs. buy decision, the way they stack up against each other depends greatly on the time frame. People often think they are ready to buy when they have achieved a comfortable level of income, but unless you are in it for the long haul, renting may very well be smarter than buying.
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