The math of renting vs. buying a home. Challenging the notion that it is always better to buy. Created by Sal Khan.
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Finance and capital markets on Khan Academy: Is it always better to buy than rent? What if home prices go up dramatically and rents don't? How can we compare home prices to rents to figure out what to do. This older tutorial (low-res, bad handwriting) walks us through this. It is about housing but similar thinking can be applied to any rent-vs-buy decision (spoiler alert, Sal did eventually buy a home).
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Great video. Consider buying down the interest rate with discount points. This would lower the amount paid towards interest. Also, we should look at how this fares in the long-term and when you would end up being net positive compared to renting.
I rather buy my house and land but I wouldn't spend a million and nobody really going to spend that much maybe a 100k ,200k,300k . In 10 to 15 years from now you will own your land it just depends how fast you want to pay it and it's worth it because you can pass it on to your kids and your grandkids so they don't got to be worrying about rent.. as in right now I'm renting but next year I'm buying me some land and building a house, I'm paying 600 a month on all bills pay, not bad for a start. I make close to eight to ten thousand a month, i will definitely be buy me a house next year
These numbers are distorted. Rule of thumb. If a house is worth a million dollars then rent SHOULD be about 1% of that per month or around 10k per month. Actually in a large percentage it is more then 10k... of course with the numbers he presented it makes sense to rent. If these numbers sway too much one way then there is or in this case was a bubble... in 20-30 years it’s always better to buy. Inflation will go up, with salary’s while your basically paying a fixed mortgage payment.
He forgot to factor in appreciation of the home which historic averages are about 2% per year, ie 20k. Also his interest number was for the first year of the mortgage when he should have used a more average number. Upkeep on the home is also not trivial.
I used to think the same way, but the key piece missing is not the potential appreciation on the principle invested in the house, but the unpaid equity... which essentially makes it a leveraged investment - and that is going to beat the pants off the $250k sitting in a CD in the long run. Just look at the prices in SF now compared to 2008!
I feel like this video isn't applicable to the mojority of American's who don't have that much money in savings. For normal people having a savings around 20,000 is considered really good. I owuld be interested to see a real world analogy using a person who only has 20,000 in the bank and is buying a 250-300k home.
The answer is that it's complicated. It depends on a number of different circumstantial assumptions that are highly dependent on each person's unique financial situation, geographical location, and life situation. The idea of home ownership itself is a complex issue. What does it even mean to say you own a home? Do you really OWN a home just because you signed a piece of paper contractually obligating yourself to 30 years of payments or does the bank own the home? Not to mention the emotional considerations and intangible benefits, some of which are hard to quantify with purely financial reasoning. There's things like the pride of ownership (pro) and the creative freedom to make it your own (pro) and the ability to borrow against your house as collateral (pro). Then there's the issue of maintenance and repairs (con), lack of freedom of mobility (con), etc. So in the end you have to run the numbers, consider all the pros and cons, and do what's right for you. If someone does that and understands the complexity of the issue then it's possible that both answers are right depending on the person. The only problem I have is with people who espouse platitudes or fail to acknowledge the complexity. But I guess it's more fun to argue with people about how you're right than to see that there is no "right" for everyone.
You also left out another consideration that would have strengthened your argument: the fact that there's an opportunity cost to itemizing your tax deductions. The person renting can still claim the standard deduction, which makes the tax savings of home ownership less convincing, and even non-existent in certain situations.
Didn't account for rent increasing while the mortgage interest goes down and didn't account for equity on the house going up. A house is essentially the same as an investment, you factored a 4% return on the CD but you didn't factor the house increasing in value (just because there was a dip in prices in 2008 doesnt mean the trend hasn't ALWAYS gone up). As long as you don't try to sell your house in a dip in the market this presentation isn't necessarily correct. A house also isn't entirely a financial transaction, I would want control of my property as pride of ownership matters to me. He also forgot the part where buying a home is a 25-30 year commitment, while renting is a life long commitment.
How about the 30000/- income tax which was not taken into consideration in the first calculation i.e. the rent a house case study???? I believe it would accumulate -26-30= -56K which is still larger than -41.5K on mortgage?
Hope I am correct to find a minor mistake in your consideration however would appreciate if you could enlighten if I am wrong...
Its 2018 when I am writing this. I have bought and sold 5 homes. The deal is that real estate is not simple dimensional analysis. In my opinion there are a few things that these videos miss. The cost of maintaining a home, the need for updating a home to sell, if its a buyers or sellers market, interest rates, supply and demand ect ect. The biggest question to answer and I have never heard it addressed is how do you take an essential need (shelter) and turn it into the “value” asset without the trade off of where do you obtain the next shelter assuming that you are not down grading or dying. My internal organs have value on the market, but I need them. So this seems to be more of a scam, maybe a ponsi scheme (spelling). I get the premise, and appreciate it, but its more complex and requires a lot more thought than people usually put into it. Good luck everyone, buy low and sell high.
The math is solid. I can say that in my case I bought a comfortable house for 165k with a Conventional 30-year/3% down payment/3.75% Interest, i.e. I bought a house for 7500$ + 600-800$ (House Inspection). I pay 1050$ on my mortgage less than the cost of renting a 3BR/2BA apartment or home in my area in the condition of my present home. Finally, I do not have 250k for the CD that you talk about upon which you would make 10k/annually. @Sal your math is solid but I cannot agree totally that it's a universal case, in particular for the lower-cost housing brackets (and for much of the audience to which you speak).
You forgot to add all the money that goes into repairs , maintenance and remodeling every five to ten years. I know that this all depends on where you live but it is a thought provoking video. Houses are money pits requiring money all the time. Another thing ,here in the USA the Gov`t keeps increasing the standard deduction so that means less and less people can actually deduct the mortgage interest. Something to think about .
There is a breakeven point between interest rates and rental cost... these are the two main variables to consider. At certain point, interest paid to your mortgage might be lower than rent your pay and vice versa. In the period when the interest rates are at an all-time low (and most likely the property market is at an all-time high), it's almost no-brainer to understand which variable will (almost with certainty) bite you harder in the future.
And he didn’t even count some very expensive repairs that befall a homeowner and not a renter without fail: plumbing, roofing, foundation, HVAC, appliances. etc. If you plan to live out your life in the home and have heirs, owning could make sense but not very much sense to you. After the bubble, BofA president said to stop thinking of your home as an investment but simply as a nice place to live. He might have said as an expensive place to live.
if you do not like to stay in one place then keep renting.....if you wanna buy put at least 20% down and a 15 year mortage ..pay off as fast as possible...im a landlord and i raise rents 2-5% a year depending on the market...your property taxes and insurance will also go up over time...both have pros and cons.
It is personal choice. I think it is much better to buy. I look at it like this. I will get all the money that I put into the house back vs when I rent I won't see a dime. Also, I can have the loan paid off at 50. And just pay the tax once mortgage is paid off and have double the savings. I make 50000k a year and 34 years old. I save about 1000.00 a month once bills and food are paid. I paid 175000k for my house. Not in the ghetto. Safe neighborhood. House was flipped, like brand new. 3 bedrooms one bath 1122 square feet, huge yard with deck, attic, 2 huge storage sheds. I just apply an extra $1000 to the principal each year to get the mortgage paid off quicker. Also, I live by a Naval base that employs well over 4000 people so I also work 2 minutes from my home. I'm about an hour ride from DC and Richmond, VA. All I need now is prince charming. =)
Let's suppose for the sake of argument that your numbers are actually comparable in this example, which I'm not sure they are, but whatever. By renting, you are paying for the privilege of living in the house. By mortgaging, you are paying both for the privilege of living in the house, and building equity on the house. At the end of 30 years rent you have no asset. At the end of 30 years mortgage you have an asset, which could well be very valuable; and regardless of whether or not it's very valuable, you now no longer have to spend money for the privilege of living in a house.
Hi Khan, great video. Just few things that are wrong with watching this video in 2017.
1-) Rent on a $1m house is probably closer to $4-5k per month.
2-) Mortgage rates are down to about 4%.
3-) CD rates are down to about 1%
Would love to see a 2017 video on this topic again.
Again, great video! Very good way to compare buying vs. renting.
Well you better START renting again bc he's dedicated to reverting the economic situation to what it was in 2007. He picked all nightmares for his economic advisory team, people who should've been in prison but never went. And my economist friend deduced that he wants everything to be like it was in 2007. Why else did he pick that particular team of economic advisors?
This video makes absolutely no sense. I own and the only way I'd rent is if someone paid me more than my mortgage payments. I would assume the same holds true for anyone who owns property and is still paying off a loan. Zillow estimates I can ask for $400 more per month than my mortgage, tax and insurance payment is (and I see it as a low ball) and you are not renting a $1 million dollar home in the Bay Area for $3000/month. Lastly morgage interest rates are much much lower than 6%. A 4% interest rate would have dropped that number by $20,000 per year and your demonstration would have shown the opposite conclusion
Ok so the actual cost of buying a home is 38.5K, not 41.5K. Sal didn't deduct the property interest amount from his income - and then tax his AGI. He would have a tax savings of 16.5K rather than 13.5K.
Also, when renting a home in Sal's example, he didn't account for income tax, which is 30K assuming its still 100K. His net outcome would actually be 56K of money thats burned.
Great break down. No need to justify why you're renting. You're obviously a smart man that's doing what's best for his family. Even with 250k, you can't afford that house. Buy a house 250k cash and you'd be adding your rent to your income. Plus 4% on a cd is ridiculous. Your return on a 25k cd after a year would be about 36 bucks minus taxes lol.
So this is highly variable... I was hoping on a video describing that intricacies and points of each, instead I got a video where in one instance at one point in time renting was clearly superior? I dunno, I can't tell.
Is the math process the same when comparing own a house vs renting an apartment? I live in an area where you can rent a one bedroom and one bathroom for around $480 a month at minimum and $700 maximum. Then you have to factor in if that includes things like water, trash pick up, cable and electric. Here, all but electric is usually covered in the rent. The other living expensive factor in as well like consumables that need to be constantly replaced and furniture. Ultimately I guess it all depend on where you live and what you can afford to pay.
House prices will go up - always. Even bubble collapse in 2008 didn't change this rule - because the new bubble is coming back with full strength and it will collapse again after 40 years or so, not sooner. People who didn't sold their houses in last 10 year are now in their expected profit margin instead of panicked loses. If you have to chose from house or rent - chose house. Otherwise rent has to be really cheap to chose rent over house. Also when you are buying a house remember that it is not your a living place, its also your investment - you are investing in neighborhood, country even investing into currency. Your choices of buying an asset are limitless only sales people try to limit your choices and make theirs the best one from left choices. But remember - it is mine opinion from gathered experience. I will give you an only advice - have your own opinion.
Interesting video. One very important thing to remember is that if the interest rates stay stable then your cost of owning property yearly stays relatively constant. Rental cost however will tend to escalate every year when the landlord decides to increase rent. The short term cost is thus in favor of renting but my guess is it will start swinging significantly by year 5-7 and by year 20 ownership should be loads more economical
Not even 4 minutes in and I can tell this video is bias toward renting. I mean come on all these rent versus buy videos I have seen rarely go over the fact that after your 30 year mortgage you pay some taxes, insurance, and put away a bit for repairs and you are good to go. They also never point out that when renting despite what the landlord / lease says you will be paying for the maintenance one way or another. And how about that credit score, never once in my years of renting has my report mentioned never being late or missing a payment to the landlord. And how about the freedom to make the changes you want /need? Need a shed, forget it, want a pool, hell to the no, plan to do some gardening, drop it. Oh and how about when your landlord decides to sell the home you are living in (yes this actually happens, just ask me), then you are screwed and have 30 days to scramble into another BS lease agreement. Another thing that never gets mentioned is that what you pay in rent could be a payment on a home double or even triple the square footage. Morale of the story is to do your own research and get the actual math on this. There are so many variables here a video like this will only help you to make an ill informed decision.
I noticed that to. He also doesn't project the costs over 5, 10, and 30 years. Home Ownership becomes more cost effective over the long run. That -41K that he said you lose every year with home ownership goes down every year.
while I agree with the statement that sometimes renting is better than buying, the figures used in this video are very distorted. rates of interest earned on CD hover around 0.5 to 2% maximum. not 4%. whereas interest charged by the bank on mortgages are 2-3.5%
But the flaw is that in renting you still have to pay 30k/yr in taxes (assuming 100k income) so you are effectively paying 56k (26 rent + 30 tax with no tax breaks). Still may be worth renting because you have 250k in the bank.
There is no right answer for all cases.
Lowest annual cost is not the complete picture for some people. For example, stability, flexibility, liquidity, predictable cost and other factors matter at varying levels to different people.
Let's assume for a second that the favorable scenario is purely determined by lowest annual cost. Renting will not always be the lowest annual cost.
The video comparison depends on numbers that are linked. They move together across scenarios. The lowest annual cost can shift the other way with different numbers plugged in. Current CD and interest rates are very different from the numbers used by the video. A renter/buyer would need to plug in *actual* numbers to use this method to identify the favorable scenario for the given situation.
If the annual costs are close to even, I'd argue that eventual ownership of an asset tips the scale in favor of ownership.
If you scale it down though then this becomes impractical. In my area it costs $800 a month minimum to rent a 2 bedroom 2 bath home. Yet i can purchase a house 2 bed 2 bath home for 65k. Lets say i have 20k in the bank and decide that option A is to rent @ $800 a month which equals to $9,600 annually or 96k for 10 years. Option B is to put a 17.5k down payment on a 2 bed 2 bath home and I take out a loan of 47.5k at a 10 year fixed rate with 6% interest. Well my mortgage payment would be 550 base pay. So if i payed the 800 dollars and lived as I was renting, I would own my home in a little over 5 years, have 65k in equity that I wouldn't have had if renting and have no mortgage payment. I think that this method is impractical for a majority of americans.
This was oversimplistic. It's all about what the person will be doing with the 250k and the extra money from the salary that supposedly would be going to pay off the mortgage itself. Cases would vary, but suppose a person could rent a house for 3k but actually would have to pay 4k a month for buying, the 1k a month being saved would be 12k per year, that could be going in the stock market, for example. But it's all a long term game, 200k in the right stocks in 2008 could be 1 million by now.
Call Dave Ramsey. If you will be taxed on it, make sure you set aside money for that first. If you have any debt, pay that off next. If it were me & I still had enough for a home, I'd pay cash for it then from there, invest monthly what I would have paid in rent/mortgage in mutual funds & get that compound interest working for me right away. You will be sitting pretty by the time retirement rolls around if you do that. It's always better to avoid debt if possible. Just imagine life rent/mortgage free!! (You'd have property taxes/maintenance still though--something to consider). Just my opinion. :)
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