I’m renting a house which zillow.com estimates is worth $112,000. I don’t know how zillow came up with that estimate, but, let’s say for the sake of discussion that they’re right.
We are renting for $712 a month.
I’ve spent the last five minutes adjusting the various settings on a mortgage calculator website and can guess that had I been able to buy, I’d be spending between $500 and $1200 a month on the mortgage, for either 15 or 30 years.
Renting for me is a better decision than buying because I don’t plan on staying here after 2013 and I couldn’t likely throw together the down payment or credit score anyway. But suppose it was an option? How do I figure, based on advertised home prices and rents, when it’s better to rent or own? Is there a formula for this kind of thing?
In general, if you are looking to either rent or buy a piece of property, renting should be cheaper in the short term and more expensive in the long run. If that’s not true, then the market is out of whack a bit and should shortly correct back. If the above weren’t true, no one would ever rent out property because they wouldn’t make a profit.
Also, the amount spent on the mortgage is only part od what it costs to buy. There’s also property taxes and maintenance to consider.
Price-to-rent dollar ratio is generally something around or just below 20. If is over 20 then you’re generally better to rent. Under, say, 15 or so and you should probably buy.
It’s calculated as Price-to-rent ratio = Average list price / (Average Rent * 12)
So for your example it would be: 112,000 / (712 * 12) = 13.1. Pretty safely in the “better to buy” range.
You mentioned your credit score, and that relates to one of the market factors:
When it is very difficult to get a mortgage, rents can rise beyond what the house payments might be, and when it is very easy to get a mortgage, it can depress rents significantly. I think in most places lenders are still being overly conservative when evaluating people for mortgages, so I would expect that to lead to upward pressure on rent.
It’s pretty complicated once you take all the factors into account, but the NY Times has a calculator online where you can put in your data here. The price-to-rent ratio mentioned by others is a pretty good rule of thumb but for such a major purchase I’d want to look at a few scenarios.
Purely IMHO, that seems very expensive for a house worth that amount, based on the UK market. Houses in my area that rent for £700-£750 a month would sell for maybe £160k-£170k.
I wouldn’t put much trust in Zillow or Trulia for accurate dollar amounts unless the data can be backed up by hard numbers. I don’t know how they arrive at some figures, but it’s an automated formula and in my experience, can be wildly inaccurate sometimes, especially if your neighborhood is not in the center of a bell curve.
Example: if your zipcode includes a wide variation in property values, that is rarely taken into consideration, and can lead to seriously skewed numbers.
The short-term vs. long-term is important. Some places have land transfer taxes, there’s the lawyer fees, survey, house inspection, real estate commission and all sorts of other costs involved in acquiring and selling a property. If you spend these every 4 or 5 years, it can get expensive. If you do so every 20 to 30 years, they are trivial.
The landlord also has to factor in other things, like maintenance costs, property tax (as mentioned above) and the risk of renters defaulting or the property standing empty. By comparison, the mortgage should always be less unless the market is all over the map or the house was bought a long time ago and the owner is not keeping up with market trends.
Interesting. I used a realtor’s website to search for houses with the same # of beds/baths/sq ft in the same zip code, and the range is generally $90K to $140K.
I felt like I did a pretty thorough search when I moved (multiple search websites, called/visited websites of a dozen places, visited five places in-person) and I feel like I can say with some confidence that $712 is near the bottom of the scale for 3bed/2baths here. The range that I did look at was $600 - $1100, and, the ones < $712 were either total dumps, or way out in the suburbs.
So an enterprising individual would build apartments here and take advantage of the high market price for rent, right?
Also, thanks The Lurker Above for that link - it is probably the most complete answer I could get without spilling all my details to a financial advisor.
You also have to get the zoning and permits to build the apartments. Otherwise someone probably already would have (or no one with the right connections has tried to yet.)
Rent is set by the market, not as a fraction of the home’s price. The landlords (in general) are going to charge as much as they can, and still keep a place occupied.
I just calculated the price-to-rent ratio for my rental property and it came out to 10.31! No wonder I keep having to let tenants break their lease because they buy places.
That NY Times calculator takes this into account, but another important factor is the expected change in home prices. If prices are going up, then there is an investment factor to consider. If prices are going down, then it might be a wise time to stay out of the market, regardless of what other calculations suggest.
In my area, there are new construction starts for apartments because the vacancy rate is at a historic low. Clearly the builders think they can sell the apartments to people/companies who think they will be able to rent them out at an acceptable profit. This expectation is reflected in the market, because the price of condos and apartments is inflated compared to the price of houses. A condo and house in similar areas and of similar size will sell for the same price. Historically condos and apartments were at a discount over unattached houses.
True, but in general, if the rent is high enough that will drive home prices up, as people compare renting to buying.
The places where you’d see the biggest disparity between the expected rent and real rent would be places like university off-campus housing, where there is a strong disinclination to buy rather than rent, and renters often leave damages and/or without paying all due rent. So, there’s less upward home price pressure on people wanting to buy, and more upward rent pressure to recover costs.
Hmm, though. The 20:1 ratio doesn’t smell quite right. At least in this area (Durham, NC, even if well away from campus areas), you can’t rent a $300K house for as little as 1250. You’d be lucky as hell to get it for 1500 or 1750 – and that’s even before the recent devaluation.
I rent a house out for $700 a month that recently appraised for $80,000. I compare to other similar homes listed for rent and get as much as I can manage. I would never price my rent based on my home’s value. It’s like setting the price of widgets based on how much it costs to make a widget. Simple, but not wise.
If there’s enough competition in the widget business, then competition pushes the price towards the cost plus a reasonable profit margin. It’s not how you as an individual does the pricing (you get the most you can); it’s about how the market forces work.
The other way to think of this is to flip it over and consider it the annual rental as the annual return on your investment. So the OP’s example is a yield of 7.6 % on the investment of the purchase price - pretty damn good.
The 20 ratio equates to a 5% return, which is reasonable rather than good.