Is it better to rent or buy a house? There are arguments for continuing to rent and for making the jump and buying. However, this question is largely dependent on several factors based on an individual’s circumstances. To help you evaluate the situation, below are several questions to ask yourself when you are deciding on whether to keep renting your home or if it’s time to start looking to buy a home.
Are you financially ready to buy?
Before you even consider buying a house, it’s important to look at your personal finances to determine if it’s a good idea or not. Owning a home is the American Dream but there are plenty of costs associated with it and having your financial house in order is necessary. If you answer yes to most of these questions, you should be financially ready to purchase a home and the decisions will be largely dependent on your personal circumstances.
- Is your debt low? – You’ll need to take on a hefty amount of debt to purchase a home so it’s a good idea to have little to no existing loans before you take on a mortgage.
- Do you have an emergency fund? – If you lost your job while owning a home, would you be able to make 6 months worth of mortgage payments?
- Do you have enough money for a down payment? – While there are low down payment programs out there, if possible, it’s better to have at least 10% – 20% available to put down on a home. If you have 20% or more, you don’t have to pay private mortgage insurance, which will save you money in the long run.
- House payment a third of your monthly pay – As a general rule of thumb, you don’t want your house payment to be more than a third of the money you earn at your job.
Other things to consider before buying a home
If you are in a good situation financially to buy a home, then it’s good to start thinking if buying a home is a right fit for you based on your situation. Take into consideration some of the below questions people might commonly ask before purchasing a home.
Do house prices always go up?
Real estate has always been viewed as a safe asset class, but that doesn’t mean it can’t suffer a decline. For example, in the 2008 recession, home prices dropped significantly and even more in some more localized areas. Purchasing a home exposes you to the risks of market forces so it’s important to consider your finances and how you would fare if the housing market appreciates very slowly or even drops. Building home equity is one of the most attractive pieces of purchasing a home and can help contribute to an individual’s net worth, but isn’t always a guarantee.
How long will you keep the home?
There are many costs associated with buying a home, so it’s imperative you plan to stay in the home for the long term to help spread out the costs of buying (for example, closing costs). If you sell the home in just a few years, it may not have appreciated enough for you to legitimize the purchase of the home in the first place. Additionally, staying in the home for a few years helps reduce the balance of the loan or mortgage you have taken out on the property including depending on the interest rates, which will contribute to your net worth.
Are you wasting your money on rent?
One of the common arguments people make for purchasing a home rather than renting a home is that you are building equity every month that you pay down the mortgage. On the flip side, there is the opposite argument when it comes to monthly rents; that you are paying a landlord’s mortgage and not your own, thereby not actually saving any money.
However, while that may be true, it’s important to factor in the hidden costs of home ownership. These items can include property taxes, homeowners insurance, private mortgage insurance (assuming you didn’t have a 20% down payment handy), interest, and maintenance. Also, a lower credit score might mean high interest rates. Additionally, if you plan on purchasing a condominium or in certain real estate developments, you might end up paying homeowners association dues each month.
Buyers home that purchasing a home will contribute to their net worth, but doing the math and figuring out if it makes sense by taking into consideration all the hidden costs of homeownership is imperative to making a sound decision.
Should you consider the amount you’ll save on taxes?
In many cases, deducting the mortgage interest on your yearly tax return helps legitimize the purchase of a home. However, it’s not always something that should be relied on due to ever changing tax laws.
For example, at one time a homeowner could deduct the interest on up to $1,000,000 in debt on their primary and secondary residences. However, that rule has now changed so that an individual can only deduct up to $750,000 in debt.
Another thing to take into consideration is that interest rates are (at the time of this writing) below 5%, sometimes even below 3%. With median house prices sitting around $300,000, that means generally a home buyer would be paying less than the $24,800 standard deduction for married couples in interest payments. In that scenario, standard deduction would be more favorable than the mortgage interest deduction so it’s important to look at your personal tax circumstances before relying solely on the mortgage deduction.
In addition to changing tax law, the amortization schedule that your mortgage follows slowly decreases the amount of interest paid on the loan in place of principal. While this is a good thing to pay down the principal balance on the loan and not the interest, it does mean the amount of interest you get to deduct starts to decrease over time.