Probably one of the most common dilemmas many renters have these days is whether it makes sense to keep paying money to be a tenant or if they should buy their next home, even if it isn't their dream house or "forever" dwelling.
While everyone's situation is different for sure, assuming you have the funds for a down payment and good credit, there are a number of factors worth looking at not the least of which is the underlying economics.
In this post I'm going to address some of the financial considerations that you may want to consider plus some best practices as a potential home buyer.
But first let's get some housekeeping out of the way: yes, prices right now are at all time highs but so are rents. It is true that mortgage rates have gone up over the past few months but we are still way below historical averages.
And, for the feint of heart, yes prices can fluctuate and you may buy a property that can go down in value. But the history of CA Real Estate is that when markets rebound they always come back stronger.
Here's some food for thought.
ELLIS POSNER'S RULE OF 20
This is pretty simple. If your annual rent * 20 is equal to what you can purchase a home for, don't rent.
So let's say you are currently renting a 3 on a lot townhome in North Redondo Beach for $3,500 a month and you can buy that same townhome for $840,000 just stop paying rent and buy.
As that won't be an option in most instances (most likely your landlord doesn't want to sell his/her rental property) if you can find a similar home to buy, just do it and stop paying rent.
Recently, I've found that many Redondo Beach buyers are coming from either Manhattan Beach, Hermosa Beach or somewhere Westside where they may be paying $5-6K or more a month in rent. In those instances they wind up paying less to be a home owner that it costs to be a tenant.
If you can buy for less than you are paying in rent, no brainer, do it yesterday because......
RENT vs MORTGAGE IS A FALSE EQUIVALENCY
You clearly can not compare paying $3,500 a month in mortgage to $3,500 a month in rent because part of your mortgage payment will go towards principle (unless you have an "interest only" product) Think of it as forced savings.
Here's an example.
Let's say you buy a property for $850,000 with 20% down. Your mortgage at 4% is $3246 per month.
After a year your amortized balance would be $668K, after 2 years $655K and after 5 years $615,043.09.
So compared to paying $194,760 in rent over five years, you have paid yourself $64,956.91 making your true effective monthly housing cost $2,163.38.
For the accountants out there, yes I am leaving out the property tax but also not trying to estimate your potential tax savings or appreciation. But speaking of which.....
LET'S SAY HOUSING PRICES GO UP 3% A YEAR
Now this is a pretty conservative number - particularly in light of some of the appreciation we have seen in the Beach Cities over the past few years. But for the sake of discussion, let's assume a 3% compound appreciation over 5 years.
That would make the value of your $850,000 purchase today worth $985K in five years. (Pretty conservative, right?)
Dividing your $135K profit by 60 months equals a gain of $2,256 per month which is just a little more than the non amortized portion of your mortgage payment.
In this analysis your "break even" Rent vs Buy is 5 years. And sure, I get it that if you were to sell there would be costs associated with the transaction but maybe the appreciation is greater than 3% and lots of other "what ifs".
SUMMING UP THESE TWO POINTSSince I know of no instance where a landlord sends his tenants a check when he sells a property to thank them for paying off his mortgage, the equity build resulting from a conservative rate of property appreciation and the amortized part of the mortgage can put you at breakeven compared to paying rent in 5 years in normal market conditions. Meaning that compared to spending almost $200K in rent, you have $200K greater net worth.
Other would argue break even is day one because you have to live somewhere anyway!
Now, let's look at some common buyer misconceptions.
HOME BUYING MYTHS 2017
There are a number of programs available that allow for a less than 20% down payment. These may not be available in all price ranges or for all kinds of properties and some require specific FICO scores or reserves.
1) You do not need a 20% Down Payment.
Most people know that FHA and VA require minimal or no downpayment. These programs are great for SFRs but also top out at loan amounts below what will work for most Redondo Beach properties. Also, condos have to have FHA approval and most don't.
Many people these days do loans with 10% down and either get a "second" mortgage or pay "MI" which is mortgage insurance. And even if you do not have 10% down you don't need all your own money because..... Gift Funds Are Acceptable!
Many people are getting all or part of their downpayment from family members. This requires a "gift letter" and again not all programs, prices and property types are the same, but these are very common these days.
2) You Do Not Need Perfect Credit
Even if you previously had a short sale, foreclosure or bankruptcy you may still be able to get a loan. Probably not at the lowest rates available but there are a number of lenders who have special programs and can accommodate you as long as you have not had other consumer credit late payments in the past 12 months.