There comes a time in everyone’s life where it’s like, “homeownership: should I do this thing?” As innocuous a question that may seem, there are many factors involved in making the leap from renting to homeownership — some that you expect, and some… maybe not so much.
While there’s no foolproof formula to determine which route is 100% right for any one person, a little reflection time in some key areas can help you make the most educated decision possible.
Am I Financially Prepared to Buy a Home?
According to twocents.lifehacker.com, your home should cost no more than 2.5 times your salary, which is a ballpark figure that doesn’t consider your full net worth. For a better calculation of the amount you can afford, factor in the following: take-home pay, your debt, other life priorities, cushion for expenses.
This one seems like a pretty obvious consideration, but there’s often more to it than just a quick calculation. You’ll need to factor in things like:
The most obvious factor in determining if you can afford to buy a house is pinning down what your monthly mortgage payment will be. There are several factors that impact what you will pay: the cost of the house, how much money you put down, your interest rate (APR), the loan term and the loan type.
Recommendations around what percent of your income should go towards your mortgage payment vary. Dave Ramsey recommends a conservative max of 25% of your take-home pay. Lenders, however, recommend that you aim for less than 35% of your pretax income.
Another big factor in the homebuying process is the very large upfront cost of the down payment. While theories on the actual amount can be somewhat inconsistent, many experts agree that it’s in your best interest to pay as close to that 20% as possible. According to Nerdwallet, that’s because:
“The larger a down payment you can make, the more financially secure you appear to lenders. You’ll get a lower interest rate on your mortgage, meaning a lower monthly payment. In addition, you won’t have to pay mortgage insurance, which protects the lender in case you can’t repay the loan. And keep in mind: If you’re scrounging for a down payment, you may also struggle to afford the ongoing costs of owning a home: repairs, property taxes, yard upkeep, homeowners insurance and perhaps a higher utility bill.”
If you really aren’t sure or comfortable with your financial estimates, you can always simulate a test. Forbes.com recommends essentially starting to set aside money as if you had a mortgage. “Let’s say that you’re paying $1,000 a month in rent, and you estimate that your all-in cost for a nice house would be $1,500 a month. Fine. Put aside $500 a month, every month, to show that you can cover the higher monthly payment. You’ll accumulate some money for your down payment or cash reserves.”
Am I Throwing Money Away Renting a Home?
Seems like a straightforward enough question, right? But, of course, there’s a lot to think about when contemplating the answer:
First of all, you have to factor in the differences between actual properties. Forbes.com speaks to the difference in today’s landscape:
In the past, the own-or-rent decision was largely about whether to live in a house or apartment. That’s no longer true. Condos allow ownership of a multi-family residence, and the opportunities to rent a stand-alone house are greater than ever before. So the own-rent decision should be apples-to-apples with comparable properties. If you are thinking about moving from a small apartment and buying a medium sized house, you’ll find that it’s more expensive simply because you’re getting more square footage and a yard.
“Costs” of renting
There are potential opportunity costs for both renting and buying. When buying, you can eventually own your home. One day, you’ll pay that home off and it’ll be yours, rather than continuing to pay rent for the rest of your life and missing out on owning an asset. Learn more about these costs at twocents.lifehacker.com.
There’s also the “cost” of a lack of home equity and the inability to claim housing-related tax breaks. An example of this is illustrated by Money.cnn.com: “suppose you're a homeowner who lives in New York and falls within the 28% income tax bracket. If your mortgage is $200,000 with a 4.5% interest rate, you qualify for $3,585 a year in tax deductions.”
“Costs” of buying
But on the opposite end of the spectrum, there’s also the opportunity cost of buying to consider — things like the down payment and the mortgage interest payments. The cost of the down payment is large, especially in expensive areas, which is a lot of your net worth to give up at once. According to twocents.lifehacker.com, it may make more sense to put less down and invest the difference.
There are also a multitude of expenses that don't impact a renter's monthly budget that you may encounter as a homeowner, including: homeowner’s insurance, private mortgage insurance (PMI), property taxes, and maintenance. Get more details on these expenses at money.cnn.com.
Am I Mentally and Emotionally Ready to Buy a House?
Yes, this may seem like a heavy question to ask yourself, but there may be more soul-searching involved in getting to the answer than you realize. When contemplating homeownership, it’s important to factor things like:
Life ebbs and flows, making it impossible to know exactly where you’ll be tomorrow — let alone 30 years from now. However, you can examine your current situation and think through the likelihood of different scenarios that could occur. Things like student status, plans for travel, temporary work assignments, divorce, or family planning, for example, could significantly impact the length of time you’ll stay in one place.
According to Time.com, “If you can’t commit to living in the place for at least three to five years, owning is probably not for you. You’re unlikely to see enough appreciation in home prices to recoup the significant transaction costs, such as mortgage fees and agent commissions. And when home prices are falling? Forget about it.”
Qz.com further supports this point saying, “If you are going to own a house for 30 years, these [fixed costs when buying a house] do not matter much. But if you’re planning to sell in a few years, they significantly raise the effective buying price.”
Owning a home can also tie into other, more emotionally or psychologically tied outcomes. Time.com speaks to homeownership as carrying “important psychological benefits for some, burdens for others.”
“A home is where you’ll live and, perhaps, raise a family. But you’ll be less mobile. Homes take time to sell or rent out, so relocating for a job or taking time off to travel becomes more complicated. As an owner, the home is yours to paint and remodel as you wish — no landlord to answer to. Then again, there’s no one to call when a pipe bursts or the boiler craps out in the middle of the night. Are you ready to be responsible?”
Look at these home options from all angles.
All of these things are important to take into consideration, obviously. But it’s not a matter of picking and choosing. The best approach is a holistic one. Luckily, there are actual calculators (like this one at Bankrate.com) that help get to the heart of the question by asking a series of questions, such as:
- Amount in savings
- Amount of debt
- How much you can put down
- Credit history
- Length of time you plan on staying in the home
- Prices in the proposed area (fluctuations?)
- Can you itemize to receive a deduction?
- What describes your monthly budget (how much is left over?)
- What level of effort are you willing/able to put into it?
- What’s your tolerance for unexpected expenses that may occur?
- How do you feel about lodging (more flexibility or wanting to plant roots)
All in all, there’s A LOT to consider. But the most important thing is to make sure that whatever the decision you make, it’s something you’re making for yourself. There are a lot of people with a lot of opinions out there. But the truth of the matter is sometimes it’s right, and sometimes it’s… not (at least not right now).