equity

The Debate Continues: One User’s Opinion on Renting vs. Buying

September 23, 2009 By Jon Griffith Leave a Comment

As with anything, there are pros and cons that change with every complicated variable involved. The concept of buying being better than renting is relative to the context of each side of the equation at any given time. No two situations are the same, but generally speaking, assuming certain conditions are already met, owning a home is MUCH BETTER for long term wealth building than renting.

In an article that I wrote back in 2008 on the SonoranHouse.com blog, I illustrated the financial benefits of renting vs. buying. Here’s what one user had to say, along with my thoughts on the response:

WRONG… Renting is FAR better and Cheaper than buying a house.

Not so fast. There are too many variables involved, and each situation is different, but the principle cannot be disputed. Owning is a long term prospect. Not short term. In order to conclude that owning is better, one must assume that the property will be held for as long as possible.

1. The down payment is $20,000 OUT OF YOUR POCKET on day one. SO by purchasing a house you are immediately $20,000 POORER the day you buy your house. In contrast, you can RENT and only pay a SMALL deposit equal to 1 months rent and keep the rest of your $19,000 to use as a safety net to pay the rent with and live an easy STRESS FREE life knowing you have the rent covered for 19 months if it’s a $1K a month rental.

When you pay a deposit to a landlord, it is a fee that can never be recovered. When you put money down on a house, you are instantly investing your hard-earned cash in an appreciating asset. You are not spending the money. Again, if your investment mindset is short term and you sell your home too quickly, you will certainly cut into your initial down-payment unless your property experiences unheard of appreciation in a short time period. Not likely to happen again. Buying real estate is a long term wealth building investment.

A rule of thumb for an emergency fund is 3 to 6 months worth of living expenses. If your rent is $1000.00/month, you have 19 months of rent paid for, but that doesn’t take into account the rest of your expenses. If a down payment on a house depletes your living expenses, they you are not ready to buy. Your down payment should be above and beyond your 3 to 6 months. So, if your expenses are $2000/month, you should sock away about $12,000. The rest can be used towards your future down payment. This all assumes that you are completely out of debt. If you aren’t, then you shouldn’t be buying a house in the first place. Most renters do not have this much money saved up and they live paycheck to paycheck, so they feel they NEED to have some sort of financial buffer to buy them time.

The problem with this is that they never get OUT of the rat race by behaving this way, and they never put their money to work for them. They will live the rest of their lives working for their money. What would be the difference between having 19 months of STRESS FREE living in a home that is appreciating in value versus apartment living with the same amount of a safety net? The difference is that part of your monthly payment is being added to the home’s equity. Some of that payment will be recovered. NONE of the rent will.

2. The Tax Deduction is nonsense… You spend $1.00 in Mortgage Interest to deduct .10 cents off your tax bill. HARDLY a “savings” at all. Your still LOOSING .90 CENTS in interest!! WAKE UP PEOPLE!!

Tax Deductions are a poor excuse for people who are poor to continue to be poor. The argument here is that it makes sense to pay the bank $1.00 in interest to avoid paying the government ten cents. Obviously that is flawed thinking. Spending 90 cents to save 10 is absolutely ridiculous. That is why the largest mortgage anyone should be financing is a 15-Year fixed. Obviously paying cash is the best way to buy a house.

3. When you own a house you pay PROPERTY TAXES each and every year. These taxes are about 1.5% of the value of your home or around $3000 a year. That’s $3K a year your LOOSING if you own a house.

Hmmm…let’s see. Property taxes at $3000/annually, deductible at your tax bracket rate, or $12,000 wasted on rent. Personally, I’d rather put the remaining $9,000 in growth stock mutual funds to offset the perceived loss, because by the time my $9,000 per year is invested over 30 years, it will pay the property taxes a few thousand times over.

4. When you own a house you pay Property INSURANCE on your house each year. This will be about 1% of the value of the home so figure $2000 a year on a $200K house.

I own a $200K home. Taxes and insurance annually do not exceed $3000.00. In fact, they don’t exceed $2000.00. This has everything to do with location and tax rates. Again, I’d rather cough up $2000/year for insurance than blow $12,000/year on rent. So based on points 3 and 4, which add up to $5000.00, I’m still ahead with $7,000 invested annually in growth stock mutual funds. Come to think of it, my down payment of $19,000 as used in this example will be reimbursed fairly quickly.

5. When you own a house you pay for ALL MAINTENANCE/REPAIRS/REMODELS. This means spending about 1.5% of the value of your home EACH YEAR to keep it in livable condition so figure another $3000 a year on maintenance/upkeep.

Nobody forces remodeling, so we’re going to remove that from the equation. Deferred maintenance is a price that everyone has to pay for, whether you own, or you rent. As the king of your castle, you determine what’s used on your property to improve and maintain it and you have a choice over the cost/savings realized from it. By renting, you have no control over these things, and the cost of rent is at the discretion of the landlord, who can easily raise it high enough to force you out to make room for someone else as a result of increased management costs. Owning your own home offers greater long-term housing security.

6. In order to “get your money back” out of your house you will need to SELL your house. This means FINDING SOMEONE ELSE TO BUY IT. You’ll have to pay Closing Cost, Real Estate fees, etc. and it can take a LONG TIME to find a buyer. THEN even if you sell, you will have to live somewhere so you would have to turn around and buy ANOTHER house or do what most smart people do in the first place… RENT.

False. As a long term investment, the asset appreciates and the value of the loan decreases over time. If you paid cash, you have an instant money making machine creating passive income. If you didn’t, you’ll eventually reach a point at which renting your home to someone else will generate positive income above what you owe on the mortgage payment. The tone of point number six seems to emphasize the dependence upon cash in the bank to provide a safety net. Obviously if you’ve been able to save $19,000, you’re making more than you’re spending, so the time that it takes to sell should be irrelevant unless you’re forced to move via relocation or other circumstance beyond your control. It’s true that if you sell too early, you’ll erase your gains because you didn’t have a long term mentality. There is so much more risk to buying a home when you borrow, but if you are able to pay cash for a home, then I’d say you’re living well financially. One’s intelligence is not a factor determined by the decision to rent or buy. One’s wealth, however, is. If you want to get rich and live free like nobody else, then you’ll invest wisely. Renting is not investing.

Owning a house ONLY makes sense IF you could pay CASH for it. Even then, your still going to “Throw money away” on Taxes, Insurance, Maintenance, and the excess bills that come from owning a house when if you RENTED many of those bills are included in the rent.

Paying cash for a home ISN’T THE ONLY time it makes sense to buy a home. It is the BEST practice for sure, but you’re not throwing money away on taxes because your home is appreciating in value, and in theory, you’re renting that home out, collecting $1000.00/month rather than spending it. Can you imagine how nice it would be to be able to put $12,000.00 less a few expenses every year without having to work for it?

The fact that there are additional bills when you own versus renting is also a false assumption. Do the math over a long period of time. Take the appreciation of real estate and the potential passive income from owning a rental and see where it would be in 30 years if invested wisely, long term. Compare it to the real costs of owning. Remember, we’re talking about ownership versus renting. We’re not talking about owning a high cost property that has no potential to generate future income. That would not be a wise investment. Of course, you could just keep on throwing your hard-earned money away. In fact…

…I’ll look forward to renting one of my properties to you because you sound like the perfect tenant.

Filed Under: Personal Finances, Real Estate Basics Tagged With: appreciation, Buying A Home, equity, investment, ownership, Renting, Rich, wealth

Is There A Benefit to Foreclosure vs. Short Sale?

June 3, 2009 By Jon Griffith 5 Comments

When you consider the fact that whether or not you are able to sell your home before the bank forecloses, the bank will eventually foreclose if you don’t pay your mortgage, it would be beneficial to you to at least attempt to sell the home before that happens.

It’s really not Foreclosure vs. Short Sale

There’s no competition here. There’s no “one way is the right way” scenario. The bottom line is, once a homeowner stops paying their mortgage, they are headed for foreclosure. A short sale can be conducted at any time prior to foreclosure. You do NOT have to be behind on your mortgage payment for a competent real estate agent to negotiate with the bank to allow you to sell your home for less than you owe. If you are headed for foreclosure, there’s absolutely NO disadvantage to attempting a short sale. In fact, there is a benefit.

Banks Pay Big Bucks to Foreclose

That’s right. When the bank reposesses your home, they spend money to do so. The hire attorneys to handle mountains of paperwork and they have costs associated with conducting a trustee sale. Then, when all is said and done, they have to hire a real estate broker to list the home for sale, which will cost them additional fees.

Who Makes Up The Difference

Let’s say you purchased your home for $150,000 and over a year’s time it increased in value to $200,000 and you decided to take out a $50,000 equity loan based on the current value. The market values fall and now you find that the house is worth $160,000 and you’re upside down by $40,000.00. You fall on hard times and can no longer afford payments on your combined mortgages of $200,000.

When you owe $200,000 on your home, and the bank forecloses and sells the home for $160,000 it is you who are responsible for the difference. Since Arizona is a non-deficiency state, the bank will probably write it off. However, and keep in mind that I am not a tax expert, if the $50,000 you pulled out of your house was not used to invest in that house, and instead it was used to invest in something else, like another house, or a vacation, or a car, then you’re in a sticky situation. The bank may come after you, because that loan was probably tied to you with a personal guarantee.

Whenever a bank writes off a deficiency from a foreclosure or a short sale, they issue a 1099-C so they can show the IRS that they have a loss. This 1099-C is an income statement for you and it must be reported to the IRS. If your financial situation meets certain criteria, then you may be able to deduct that same amount from your tax return and thus not owe any taxes on it. If, however, you do NOT qualify, you may find yourself paying income tax on the deficiency. So it would make sense to reduce the liability as much as possible.

Sell It Short

The best way to reduce your potential liability is to give your local real estate expert an opportunity to sell your property BEFORE it forecloses. Look, the property is headed for foreclosure anyway. The banks know that it costs them a fortune to reposess homes and sell them at auction, so they are much more likely in economic times such as these, to allow you to sell it BEFORE they incur those expenses. Rather than pay the attorneys, the bank agrees to pay the real estate expert, and saves a bunch of money. Bank owned properties sell for less than properties that are selling short, and that translates to a smaller deficiency, and less reported income, saving you potential tax dollars.

Don’t simply walk away without giving your local real estate expert the opportunity to help both you and the bank save some money. And guess what, it helps them out too, because that’s how they feed their families.

Filed Under: Featured, Personal Finances, Short Sales Tagged With: broker, equity, foreclosure, mortgage, opportunity, short sale

The Benefits of Ownership

February 9, 2009 By Jon Griffith Leave a Comment

Buying a home doesn’t mean all of your problems will go away. There are plenty of responsibilities that come with home ownership, but the benefits far outweigh those responsibilities.

Owning a home involves a down payment, property taxes, potential home owner’s association fees, and other various expenses that can seem at first to be a burden, but when put into perspective, are all positive aspects of home ownership.

Down Payment – the downpayment becomes part of your home’s equity, or the amount of money your home is worth above and beyond what you’ll owe on it. Equity is what you would walk away with if you sold the home. Traditionally, since homes increase in value on average by 3% – 4% annually, your downpayment is now part of that investment.
Property Taxes – Did you go to school? Are you children in school? Will they be? Education is just part of what your property taxes pay for, and as I mentioned, contrary to popular belief, purchasing a home is not the most important investment you’ll ever make.
HOA Fees – The homeowner’s association is responsible for keeping your neighborhood looking good for the purpose of retaining property values. Nobody likes a run down neighborhood. There are other benefits that you’ll learn about in their documentation (Covenants, Conditions, and Restrictions.) Remember, not every neighborhood has one.

The fact that purchasing a home involves large dollar amounts is what typically drives the would-be buyer away. But let’s face it. Most of us don’t have $100,000 sitting around in our bank account, and so we remain stuck in a pattern of believing we cannot afford to buy a home.

So what makes buying a home such a financial benefit?

Tax Deductions – When you finance a home, part of the payment you pay to the bank is interest and part of the payment is equity. During the first 20 years of a 30 year fixed mortgage, the interest portion is actually disproportionately larger than the principle payment. Under current tax regulations, you are permitted to deduct the interest payments from your income to lower your tax liability. Renting does not allow this.
Appreciation – Real estate, over time, will increase in value by an average of 3-4% annually. In some cases more, in some cases less. As your home’s value increases, your equity grows, which equates to you and your family walking down a road towards financial independence and complete freedom from the rat race.
Equity – Part of your monthly payment goes towards chipping away at the balance of your loan and becomes equity in your home. Equity is something you can recover when you sell the house, provided the value has increased. When you rent, you don’t build any equity.
Buying Power – As the equity in your home grows, so does your ability to borrow that equity to improve your home or invest in additional properties down the line. While the reason we’re in this economic crisis is because of cash mongering greed, home equity loans are a potential solution to emergencies should they arise.
Economic Stability – A 30-year fixed loan is just that, fixed. The payment never changes. Rent continually shifts from lease term to lease term and over time can increase. Buying a home ensures your payments will always be the same.
Freedom to Choose – Owning a home gives you the right to do just about whatever you want to it, from the landscaping to interior decorating, you’ll no longer be bound by the landlord’s rental agreement and you’ll have the freedom to express yourself exactly how you want. Not only that, but you’ll also have the freedom to rent your home out to someone else. Renting out your home is a great way to continue to reap all of the benefits above without having to pay for it. In fact, your renter pays for it and helps move you toward financial freedom.

When you own, you have a voice, and you gain a sense of greater community, as though you matter more to the world. I have owned my own home since I was 30. I wish I had purchased sooner because I would be way ahead of the game. Get on it today! It’s time for you to buy a home.

Filed Under: Buying A Home, Real Estate Basics Tagged With: benefits, buyers, buying, equity, ownership

Remembering the Equity

January 25, 2009 By Jon Griffith 1 Comment

Looking back can leave you blinded to the future, but sometimes it can help you make decisions for the future too. There’s no way to predict what will happen in the market, but there are ways estimate the continuation of a pattern that hasn’t wavered in quite a while.

There was a time when my little condo would have fetched nearly $320,000.00. I purchased it for $120,000.00 in 2002. My neighbor purchased the same unit, which is perpendicular to mine, for $319,000 in September of 2005. Needless to say, I’m thankful that I’m not in that position as my home is not yet upside down.

Can I count on that long term? Well, last year I continually heard real estate agents talking about how they believed that we had just about hit the bottom of the market. What most of them (I think I may have been one too) did not take into account were the number of short sales and foreclosures that had not, and still have not yet touched the market.

As a result, the prices valley wide have continued to plummet. An interesting fact, as pointed out by Russell Shaw of John Hall & Associates at a recent Paradise Valley Realtor Marketing Session is that even though prices are falling, the number of sales have increased.

In a typical supply and demand model, when supply decreases, price increases. When prices fall, it’s because either demand is low or supply is high, or combination of the two. In the case of home sales in Scottsdale, the supply is abundant, the sales numbers are up, and the prices continue to fall.

REO properties (Real Estate Owned, or Bank Owned) are responsible for the most part. The supply of bank owned foreclosure properties continues to climb and the number of these that sell also continues to climb, but the prices of REO homes are typically slashed to liquidate quickly.

Statistics for 2008 (Scottsdale Single Family Detached)

In January of 2008, the average list price for properties that actually sold was $352,000. The average sale price of those homes (actual closing sale price) was $330,000 or an average of 93.8% of the asking price at the time of sale. (The ratio of 93.8% represents only the percentage of sold price to asking price at the time the home sold, not the original asking price, which would be a more realistic representation to present to the unrealistic seller.)

By December of 2008, the average sale price had fallen by 40.9% to $195,000. That’s a 3.4% per month average. History has shown over time a rough average of 4% year over year gains, which means we’ve lost a little more than 13 years of traditional gains in 12 short months. That puts things into perspective. Here’s the problem. We have no idea if the traditional market we have known will return…at all. The financial sector has changed so much in the past 6 months, it’s hard to say if any familiar patterns are going to continue. Logic should dictate that there is only so much space, and everyone needs a place to live, so prices will eventually head upwards again. We just don’t know when. Anyone who tells you they know simply does not know.

Filed Under: Market Updates Tagged With: equity, Market Updates, statistics