A passionate debate rages about whether it’s better to buy or rent a home. Homeowners argue they save vast amounts on rents and taxes. Renters maintain that they earn much more by investing in stocks instead of houses.
The buy vs. rent debate would benefit if more owners and renters disclosed their actual returns. So today I’m providing hard numbers about the home I bought in 1993 and sold last month.
Obviously, one owner’s past experience is no guaranty of your own future results. But I believe that reading real life case studies can help anyone who faces the buy vs. rent decision.
Besides, I’m curious about whether buying my home was a smart choice. Could I have earned higher profits by leasing a similar place and investing whatever house payments I saved? Who would have fared better: owner-me or renter-me?
My answer to these questions appears below in three short charts. This brief accounting tells a story that I hope you’ll find helpful. It also highlights an important point that’s missing from many buy-rent debates—and it’s a point that everyone should consider before they ever sign a mortgage or lease.
HOME OWNERSHIP GAINS/LOSSES
Chart 1 shows the returns from the house I bought on September 24, 1993 for $215,000 (with closing costs of $2,567) and sold on February 25, 2015 for $419,100 (with closing costs of $15,322). This chart also shows what I actually spent over the years for interest, county real estate taxes, insurance, and repairs (after netting out income tax deductions).
If any item appears in red, click on it to see the supporting data. For example, if you want to explore how much I spent in home repairs over the years, click on the red text in line 8.
|$217,567.50 Invested in Home|
|1||Gross Proceeds from House Sold on 2/25/2015||$419,100.00|
|2||Closing Costs for Selling House||($15,322.25)|
|4||Principal Investment (including closing costs)||($217,567.50)|
|6||Blended 2015 Capital Gains Tax at 19.63% and 24.63%||$0.00|
|8||Interest/County Taxes/Insurance/Repairs (after deductions)||($169,163.43)|
|9||Net Gain from Owning||$17,046.81|
As Chart 1 shows, buying my home allowed me to live there rent-free for 21 years. After counting all the ownership costs, I even managed to earn a small profit. As I see it, this positive outcome is the result of three key factors.
First, in 2003 I paid off my mortgage. I figure this early payoff saved me $101,967 in additional interest expenses. Here’s the math. Without these savings, my home would have lost money over the past 21 years.
Second, I stayed in one place and didn’t move. I figure this saved me about $57,000. According to studies, the average single family home in Colorado changes hands once every 8.9 years. By staying put, I saved myself at least two rounds of broker fees, moving expenses, and closing costs. Here’s the math.
Third, I benefited from tax policies that favor homeowners. I figure these saved me $91,956. As line 6 shows, the tax code exempts me from paying for any gains on the home sale. See IRS Publication 523. This saved me $36,553 in capital gains taxes ($186,210.25 * 19.53% = $36,553).* As line 8 shows, I also received income tax deductions for payments of mortgage interest and county real estate assessments. This saved me $55,403. Here’s the math.
Thanks to the foregoing, owner-me did just fine. How would renter-me have fared?
Chart 2 shows the results if renter-me had regularly invested owner-me’s house payments of $217,567 into the Vanguard 500 Index Fund (symbol: VFINX). My house payments consisted of: (1) a down payment when I bought the house in 1993; (2) a final payoff when I retired the mortgage in 2003; and (3) monthly mortgage payments made between 1993 and 2003, a small portion of which were allocated to principal rather than interest. As to these monthly principal payments, I assume that renter-me would have accrued the savings and invested them annually in VFINX (assuming annual instead of monthly investments greatly simplifies my calculations). Finally, I assume that renter-me would have sold VFINX on February 25, 2015, which is the same day I sold my house.
Chart 2 also reports how much it would have cost renter-me to live in a comparable house. I calculate this amount based upon: (1) Zillow.com’s report of current rents for similar homes in my neighborhood; and (2) well-established formulas for charging rent that are based upon a percentage of the rental property’s value (as rental home values increase, so do rents).
|$217,567.50 Invested in Stock Market|
|1||Gross Proceeds from VFINX Sold on 2/25/2015||$886,260.99|
|2||Closing Costs for Selling (and Buying) VFINX||$0.00|
|6||Blended 2015 Capital Gains Tax at 19.63% and 24.63%||($141,456.71)|
|8||Rent Expense for Similar Home||($624,703.87)|
|9||Net Loss from Renting||($97,467.09)|
As Chart 2 shows, renting a house for 21 years would have caused a loss of $97,467.** Why the shortfall? Answer: $624,703 in rents wipes out the $527,236 I would have earned in investment gains.
Charts 1 and 2 show that by owning instead of renting I saved $114,513 ($17,046.81 – ($97,467.09) = $114,513.90). But this doesn’t tell the whole story of how much I prospered as a homeowner. One big point remains to be considered, and it’s a point that many buy-rent debaters forget to mention. So let’s look at one last chart.
INVESTING WHAT I SAVED ON RENT
Compare line 8 of both charts above, and you’ll see the enormous costs of renting. Over 21 years, renter-me pays $624,703. Over the same period, owner-me also pays recurring costs, which consist of interest, county taxes, insurance, and repairs. Together, these ownership costs equal $169,163—a small fraction of what renter-me incurs. My savings on rent thus total a staggering $455,540 ($624,703 – $169,163 = $455,540).
Now here’s the big point missing from many buy-rent debates.
Since owning my home produced rental savings of $455,540, how much could I have earned if I’d invested it all in VFINX? After all, if renter-me gets to invest any saved house payments as they accrue, then owner-me should be free to invest any accrued rent savings.
Chart 3 reports how much I would have earned had I used my saved rents to buy stocks. As before, I assume that owner-me would have accrued the monthly rental savings and used them to make annual purchases of VFINX.
|$455,540.44 in Rent Savings Invested in Stock Market|
|1||Gross Proceeds from VFINX Sold on 2/25/2015||$1,064,007.93|
|4||Blended 2015 Capital Gains Tax at 19.63% and 24.63%||($127,046.61)|
Chart 3 delivers an amazing lesson. By regularly investing what I saved in rents, I eventually enjoy post-tax profits of $481,420—a massive return that builds on the $114,513 ownership advantage reported in Charts 1-2.
Chart 3’s lesson is missed by many, but if you remember to pay it heed, someday owner-you may be sending renter-you a heartfelt message of thanks.
* * *
If you want to explore this topic further, visit the New York Times buy-rent calculator. This site allows you to input twenty-one different variables, a detailed approach that delivers good advice tailored to your own circumstances.
* For married couples filing jointly, the 2015 federal capital gains rate is 15% on amounts up to $464,850 and 20% thereafter. Colorado adds 4.63% to these federal rates.
** This loss is slightly understated. In line 6, I assume that all stock market gains would have been taxed at the 2015 capital gains rates for married couples filing jointly. In reality, any gains from VFINX quarterly dividends would have been treated as current income and taxed at the higher marginal rates that applied during my working years (I retired in 2009).
Great Photo by WoodleyWonderWorks