Rent or Buy

. 4 min read

Depending on individual circumstances at some point you may have grappled with the option between renting vs buying a property.

It’s a common misconception but It’s often assumed if a mortgage payment that’s equal to or less than what you would otherwise pay in rent, then purchasing a property is the way to go or vice-versa. Although it’s easy to come up with the numbers, unfortunately, they don’t offer a meaningful, apples-to-apples comparison.

In this post, we take a look at some pros and cons as well as a general way of determining which would be beneficial based on 'unrecoverable costs'.

Pros of buying a property

  • Build equity - By repaying the principal component of the mortgage you are effectively building equity in your home which could benefit you in the long run. In particular in a growing property market.
  • Tax benefits - Enables investors to deduct property expenses from their taxable income where they add up to more than what is earned from rent. Deductions can include interest payments on a loan, necessary maintenance and depreciation on a property's value.
    For example, say you earn $100,000 annually and pay a bit less than $25,000 in tax per year.
    You buy an investment property which earns $30,000 a year in rent. If your interest payments on that property are around $40,000 a year, you can deduct the difference of $10,000 from your taxable income.
    Which means your taxable income would drop down to $90,000, which would reduce your overall yearly tax bill to roughly $21,000. While you are still not out in front, you do get $4,000 back in your pocket.
  • A sense of community - Owning your own home means a commitment to an area and becoming part of a community that can often be missing when you frequently change rental properties.

Cons buying a property

  • Costs - Aside from house purchase, you will also need to take into account any associated costs during the purchase phase, such as stamp duty (varies by state), legal/conveyance fees, and in some cases, mortgage insurance. Other potential costs include costs for valuation reports, building inspection and pest inspection reports, Government title transfer fees, mortgage registration fees and loan establishment fees etc. Also, as a homeowner, you are responsible for repairs, dealing with pests or general maintenance, council rates, strata fees (if you purchase an apartment) and home and content insurance.
  • Compromise - Depending on your financial position and ability to borrow you may have to compromise on where you live and look further afield. You may have to adjust your lifestyle.
  • Long term commitment - Having your own mortgage is a significant undertaking and will no doubt impact on your current situation, your lifestyle and your plans. It would be best if you had a reliable and stable income to cover your home loan repayments, and you will find that you may have to make some changes to other aspects of your life.

Pros of renting a property

  • Flexibility - Renting may allow you to live where you want to live, whether it’s by the beach or close to the city. Most rental contracts are for a defined time of 6 months or so. Giving you the flexibility to move on when it ends and test out another area to live in.
  • Less expensive - Generally rent is lower than a mortgage repayment. Overall costs/expenses associated with renting can be considerably lower compared to owning a property.
  • Low maintenance - Renting a house or apartment also means that you could avoid most maintenance tasks associated with ownership. It is the responsibility of your landlord to generally maintain the property and pay taxes, even though you might have to look after the day to day maintenance.

Cons of renting a property

  • Security and permanence - One of the downsides of renting is that your ability to hold onto the property is less certain. Your lease may not be long-term, the rent may increase or the landlord’s circumstances could change, forcing you to look elsewhere for a place to live.

  • Inflexibility - You will also be subject to regular rental inspections; ultimately you have little say in your housing situation. The inability to decorate (like hanging lots of pictures), keep a pet or carry out any renovations can also make it feel like someone else’s abode.

  • Renting isn’t an asset - No matter how affordable renting is, you will not have the opportunity to sell an asset when the time comes to move on.

Unrecoverable costs

By definition, unrecoverable costs are any costs you pay with no associated residual value. In other words, it’s money spent, never to be seen again, in exchange for having a place to live.
To compare the rent vs buy decision, it’s best to compare the total unrecoverable costs of renting, to the total unrecoverable costs of owning. This should help compare the two options much fairer.

Determining the total unrecoverable costs of renting is very easy: It’s the amount you are paying in rent and any related expenses associated with the lease.

For a homeowner, calculating unrecoverable costs are slightly more complex. A homeowner has a mortgage payment. A mortgage payment is not entirely an unrecoverable cost. It is a combination of interest and principal repayment.

So what are a homeowner’s actual unrecoverable costs? There are three of them:
Any taxes and fees related to property such as stamp duty and council rates
Maintenance costs
Cost of capital (mortgage interest + opportunity costs)

Thinking about the unrecoverable costs of homeownership will make it easier to arrive at a meaningful set of numbers when considering the financial ramifications of whether to rent or own your home.

Useful tools:
Check out the rent vs buy calculator