Apr132012

Two good reasons to keep renting in 2012

I still rent. I own investment properties, but I still rent my primary residence. In all likelihood, the properties at the mid to high price points common in Irvine will continue to come down over the next few years, so there is little urgency. I am enticed by the low interest rates and the historically low cost of ownership, but there are advantages to renting that shouldn’t be overlooked.

There are two good reasons to rent in today’s market: (1) prices are still going down, and buying may result in a loss of equity, and (2) buying today sacrifices mobility. The problem of falling prices is overcome by those with a long ownership period. Locking in a low monthly cost of ownership is its own reward. Giving up mobility can be overcome by obtaining a property with a significant discount from rental parity. Those properties can be rented if a buyer needs to move. People who don’t plan to own long or are paying a premium to rental parity will likely be very disappointed.

The Case for Remaining a Renter

Apr 04, 2012, 12:07 PM — By Quentin Fottrell

The combination of super-low house prices and rising rents might raise the appeal of home ownership for some.

Low house prices, low interest rates and rising rents do conspire to make owning a better choice financially than renting.

But economists say there’s a strong case to be made for remaining a renter.

There is also a strong financial argument to be made for remaining a renter. As price fall, home ownership becomes even less expensive, and renters don’t burn any equity be remaining renters.

Real estate agent surveys suggest low prices are encouraging first-time homebuyers to take the plunge, the Wall Street Journal reports. Average apartment rents increased 2.7% in 2011 while the national vacancy rate dropped below 5% for the first time since 2001, according to a quarterly survey by real estate firm Reis. But some analysts remain skeptical. For many, they say it may never make sense to buy.

The U.S. government has long encouraged home ownership through tax breaks and other incentives. Prior to the housing bust, this led a generation of young Americans to invest their life savings in property, says Sheldon Garon, a professor of history at Princeton University and author of “Beyond Our Means: Why America Spends While the World Saves.” In other prosperous countries, renting is more often the norm, he says. “Americans should beware of the hype that they’ll get huge tax breaks for owning a home,” he says. Two-thirds of taxpayers don’t itemize deductions on their annual income tax returns “and, thus, benefit in no way from the vaunted mortgage deduction,” he says.

Further, many loan owners who do take the home mortgage interest deduction pay so much more for the house that the subsidized cost of money still exceeds the cost of a rental. At the peak, people were paying $4,000 a month to get $1,000 a month in tax breaks when they could rent the same house for $2,000 a month. In other words, people paid a premium to get a tax break. How stupid is that?

Would-be homeowners also may not want the added expense that comes with maintaining a house.

Particularly now that the housing ATM is shut off and the house won’t pay for itself.

As long as renters avoid real estate brokers – who can charge up to 17% in cities like New York – they only need a damage deposit, says Mark J. Perry, professor of economics at University of Michigan-Flint. Most banks require 10% to 20% of a home price for a down payment, and that doesn’t include legal fees, maintenance and plumbing repairs down the road. “Many people don’t have the credit to buy a house, but do have adequate credit for renting,” Perry says. But Pete D’Arruda, founder and president of Capital Financial Advisory Group in Cary, NC., says low prices are a big incentive for people to build their credit score.

There are, of course, plenty of reasons to want to own real estate. For one, D’Arruda says, mortgage interest is tax deductible. “Turn the tables on banks and lock them into a rate of below 4% for 30 years,” he says. “That’s a great protection against inflation. Does that mean house prices won’t go down again? Probably not, but it’s better to buy a low point.”

Which is better, a low cost of ownership or a low purchase price? The two may not go together. For instance, someone buying today at 4% interest may have a lower cost of ownership than someone buying four years from now at a 6% interest rate even if the buyer four years from now pays less money. The answer really depends on your term of ownership. People who plan to live in the house for three to five years should not buy because prices may be lower when they need to sell. People who plan to own for more than ten years should lock in the lower cost of ownership even if they pay a premium price to do it. They make it back in savings over time.

However, as the job market shows only tentative signs of recovery, financial advisers say there is still a big need for people to move for work. “Renting helps with that mobility,” says David Abuaf, chief investment officer at Hefty Wealth Partners in Auburn, Ind. “If you own a home, picking up and moving is a much more involved and expensive process.” Corbett says people who need to move because of a new job usually need to do so within 30 days. “Renting gives you that luxury and also protects you from having to sell a home that may not be valued at the price you paid,” he says. With prices still weak, he says homeowners will have to wait a long time for a return on their investment: “Renting will save you from incurring thousands of dollars of closing costs on selling.”

Mobility is the primary reason to rent. It always has been. Only during the crazy days of the bubble rally when prices rose very quickly could buyers escape within a year of buying without losing money on transaction costs. Real estate can be very illiquid, as many underwater loan owners are seeing now. Back in 2004 nobody thought about liquidity. There were always buyers willing to pay any price to own a home, so getting out was easy if necessary — not today. Anyone buying today must recognize they are giving up their freedom of movement for the foreseeable future.

With 30-year mortgages and flat house prices, the accumulation of home equity happens slowly, so the historical advantage of ownership may no longer applies, Perry says. “The S&P 500 is up by about 12% so far this year, offering a much better return than home prices,” he says.

When factoring in maintenance costs, transaction costs, and mortgage interest, owner-occupied real estate is typically not a good financial investment. Only in our era of inflated house prices and HELOC abuse has made owner-occupied housing seem a better investment than it really is. The crash in prices over the last several years may have removed some of the kool aid, but once prices start to go back up, watch out, the dumb and thoroughly discredited fallacies of the housing bubble will be touted by realtors and accepted by the eager masses looking for a free ride.