Is Owning or Renting Better For You?

How to know when it's smart to rent.

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There will always be a substantial segment of the population for whom owning a home does not make sense. This is for the simple reason that they are not secure in their job and/or family situation and therefore cannot count on being able to stay in the same home for a significant period of time.

This is important because the transactions costs associated with buying and selling a home are substantial. Realtors typically charge a 6 percent commission on the sale price. The points charged for taking out a mortgage are typically in the 1 to 3 percent range. Many states have transfer taxes that could reach as high as 3 percent. In addition, when buying a home it is usually necessary to pay for an appraisal, a title search, a lawyer at closing, a home inspection, a surveyor, and other odds and ends.

In total, the costs associated with buying and selling a home will typically be around 10 percent of the price. In many areas they could be considerably more. This is a huge cost if a person cannot spread it over a long period of home ownership.

To take a simple example, suppose someone pays $160,000 for a house, roughly the median house price. If their transactions costs from buying and selling the home are 10 percent of the purchase price, then this comes to $16,000. If they live in the house for 10 years, this cost effectively adds $133 a month to the price of living in this house.

However if this person only lives in the home for two years, then the transactions costs effectively add $670 a month to the cost of living in the house. The added cost in this case is almost equal to what it would typically cost to rent a house with a $160,000 price tag. The basic story is that if someone does not reasonably expect to be in the same house for at least five years, they should probably be renting.

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