If you’re debating renting versus owning a home, you’re probably busy pecking at rent vs. buy calculators, salting away your down payment, and polishing your credit score to satisfy a mortgage lender.
But there are other considerations to take into account, too—such as what happens to your financial life after your purchase.
If you overspend to buy, or buy a money-pit fixer, you may build home equity—but at the expense of saving for emergencies or investing in retirement accounts. Or worse, going into debt to simply to repair your home. You might also just want to redecorate from floor to ceiling (hello, home improvement loan.)
When rent prices resemble mortgage payments it’s tempting to buy just to sidestep the risk of future rent spikes. Sometimes that makes sense, especially if you live in an expensive metro area, have a sufficient down payment and income to support a mortgage, and can commit to a permanent address for several years.
Want to tire-kick the math on your home-owning dream? Try Zillow’s “Breakeven Horizon” calculator, which shows how many years you’d need to own before doing so makes more sense than renting. Also see our blog post on where you’re most likely to be able to buy a home before the age of 40.
No matter when or if you make the leap, though, it’s important to look at how ownership expenses impact your personal finances and can create opportunity costs around saving for retirement. Many would-be buyers go to a mortgage lender to find out what they can reasonably afford to purchase on the home front. Know that many mortgage lenders will tell you the maximum amount you can borrow—which is often above and beyond what you might comfortably actually be able to afford on your monthly budget.
You might be wise to consult a financial advisor, too. While a mortgage pro can tell you how much you can borrow to buy, a financial advisor will tell you how little to spend on housing within a budget that leaves room for emergency savings, saving for goals, (a baby, car, college fund), and retirement.
What should you budget for housing?
Writing in Your Money Ratios, Denver financial advisor Charles Farrell suggests that households with any hope of retiring should start out (or by 30) with no more than twice their household income in mortgage debt—and that near retirement mortgage debt should slide to zero. That means a couple nearing 30 with a household income of $125,000 shouldn’t owe more than $250,000 in mortgage debt—a pretty tough call in many urban metros.
A different rule of thumb says that borrowers should limit their monthly housing expenses to around one-third of their monthly income and no greater than 40 cents on the dollar for all-in expenses.
Many prospective homeowners are surprised to learn that they are overreaching when considering commuting costs, the likelihood of a roof repair or perhaps, ongoing landscaping. Conversely, they may figure that they can save hundreds each month by not paying for an expensive parking spot.
How do the costs compare for renting and buying?
Check the lists below. The list looks a little long for owners, doesn’t it? And yet, at some point, most American adults want to own if for no other reason than that owning offers a so-called “forced savings plan”—because you have to live somewhere, and when you own a home over time your mortgage payments build home equity, which can help you if or when you decide to sell your place.
Additionally, homeowners are eligible for certain tax benefits. They can take tax deductions on their mortgage loan interest as well as the interest for secondary home loans, and they generally only pay capital gains taxes on the portion of home sale profits above $250,000 (single) or $500,000 (couple).
The self-employed and those who work from home are also eligible for additional tax deductions, including home office expenses, a portion of utilities, and more.
Bottom line: Before you buy to sidestep a rent hike, spend some time studying the real future costs of homeownership—and whether they support or detract from the rest of your financial picture or ability to save for the future.
Monthly rent: This is your monthly payment on the property, outlined in your lease for six, 12, 18, or another number of months.
Premature move-out fee: If you break your lease, you may be responsible for paying some or all of the remaining months of rent. Local laws vary.
Deposit: The deposit you pay at move-in may not be returned in full if pet damage or other wear and tear happens.
Utilities: Depending on your building type, utilities (garbage pickup, water/sewer, heat source) these are typically included in your lease price.
Renters Insurance: Typically required, this insurance generally costs less than $30 per month, according to the National Association of Insurance Commissioners.
Parking spot: In some buildings or communities, parking spots cost additional.
Add-on options: Some buildings charge add-on fees for features like storage space.
Maintenance: This is typically included with your rent, although renters of freestanding houses may be obligated for some tasks such as yard care.
Mortgage and mortgage interest: This is your monthly payment on the property. What you pay for the principal (the loan) and its interest (at a set rate) is fixed for the term (number of years) on your mortgage. If you have an adjustable-rate mortgage, however, your interest can go up by several hundred dollars per month.
Taxes: You’ll pay property taxes, which vary by jurisdiction. Generally, these are just under 1% of your property’s assessed value, which is typically below the home’s sale price and can via local county websites. Taxes rise over time in tandem with your home’s property value or if levies or voters approve increases.
Homeowner association dues: If you live in a condo or planned housing community, you pay monthly dues for maintenance of common areas (pool and rec room, lobby and elevator). These dues can spike with little warning if a building or community faces expensive repairs or infrastructure expenses.
Utilities: When you own a home, you are responsible for utility costs. If moving from apartment to house, the uptick in expenses can be startling.
Insurance: Homeowners insurance is typically $60 to $100 per month and is required by mortgage lenders.
Add-on insurance: You may choose to purchase additional insurance to cover earthquake, flood, or fire risk. If you paid less than 20% down payment, you might be on the hook for private mortgage insurance.
Additional loans on the property: If you take out a home equity line of credit (HELOC) or second mortgage, gestures typically done to fund repairs, you will pay lower interest than on a credit card but will still need to make payments.
Maintenance and repairs: This is the biggie. Most homeowners can expect to pay an average of about 1% of their home’s purchase price toward maintenance annually. In a $300,000 home, that’s $3,000 per year or $250/month. While one year may require little maintenance, the next year may see a need for a new roof ($5,000-$25,000) or new refrigerator ($1000).