We continue this series on the social and economic benefits of owning with a shift from the investment aspects of real estate to the monthly costs of ownership. There is no doubt that owning has significant advantages over renting when it comes to building equity. However, if the monthly cost of owning is much more than the monthly cost of renting, the investment advantages disappear over time. Now we will introduce three additional concepts which will demonstrate that owning is cheaper than renting in the long run.  

Forced Savings

We start with the concept of a forced savings plan. For the sake of simplicity, we will use even numbers.  Let’s say that the same home can be purchased or rented. The mortgage on the home (PITI) is $3,000 and the rent on the home is $2,500.  The home is cheaper to rent, right? That is what most of the analysts would say.  

However, the amount of the monthly payment which is going to reduce the balance of the mortgage is approximately $300 in the first month.  In the tenth year, that number will grow to approximately $600 per month. At the same time, while you are paying down your debt, if you were renting, 100% of the payment would go to the landlord. Thus, the real comparison is approximately $2,550 for the mortgage over a ten-year period, vs. $2,500 for rent.  Still higher, but a lot closer.  

A Hedge Against Inflation

Moving to the second monthly factor after the forced savings plan is the fact that a home serves as a hedge against inflation. In financial terms, the word hedge equates to the word protection. In years past, we would have always led the discussion of monthly savings with the topic of taxes, but the past few years have highlighted the most important long-term savings: inflation. Simply put, rent increases faster than a fixed rate mortgage, even in times of low housing inflation. 

Note that we are not talking about the overall rate of inflation but one sector — housing inflation. Again, using even numbers, let’s say average rents and housing prices rise by 4.0% each year over a ten-year period, which is pretty close to historical averages and much less than the past few years. A rent of $2,500 per month would increase to approximately $3,700, or close to 50%. The mortgage’s principal and interest are fixed and do not increase. However, property taxes and insurance do. Let’s say this amounts to 25% of the total mortgage payment, which reduces the inflation factor to 1.0%, or 25% of 4.0%.   

If the mortgage payment starts out at $3,000 per month — $500 more “expensive” than rent in this example — in ten years it would be $3,300 per month, $400 less than renting. And that is before you apply the principal reduction factor, which in turn makes the mortgage much cheaper than renting. In 30 years? The savings achieved is astounding.  

Tax Benefits

The third and last monthly factor that contributes to owning being more affordable than renting is the tax benefit. We have already mentioned one tax benefit of owning, the exemption from capital gains taxes, which contributes to the investment gains of homeownership and partially offsets the costs of maintenance. On the monthly side, we have the mortgage payment tax deductions. Interest and property taxes, which make up the vast majority of the monthly payment, are deductible from individual income taxes.  

Another simple example: If the interest and taxes are $2,400 per month and the tax bracket is 25% (even numbers for simplicity), the savings would be $600 per month. There are a few caveats. The standard deduction for married couples is currently over $30,000 and if there are no other deductions to cover that amount, you would not get the full benefit of the deduction. Plus, the maximum loan amount which can be deducted is $750,000 and the maximum deduction for state and local taxes (including state income) is $10,000. 

This means that those purchasing lower priced homes are not likely to receive the full benefit of the tax deduction, except if the home is purchased by a single individual with a lower standard deduction.  On the other side of the coin, those purchasing very expensive homes will also miss out on major deductions, though these higher income owners are more likely to realize the higher investment gains of owning. 

In Review

Let’s spend some time summarizing our findings over this three-part series. First, there are the social benefits of homeownership which cannot be ignored — security, freedom, pride, and more. From an economic standpoint, we introduced four concepts that make owning wiser than renting. We started with leverage, which makes a home a more productive investment compared to the vast majority of other assets. We then went on to explore three other concepts that explain how owning a home is less expensive than renting, not more: 

These concepts prove that owning a home is not only less costly than renting, but also the advantage widens over time. It is especially important to note that this advantage exists no matter what the economic environment. Obviously, there are times like the present in which achieving homeownership is more difficult. But for those who do purchase a home, in the long run they will be much better off financially, with many additional social benefits as well.