Buying a house is financial suicide…but I did it anyway
“Rent money is dead money” is the default response by most people on the ‘rent vs buy’ debate.
Especially in Australia.
Owning your home is a cultural icon. The great Australian Dream. What do you own if not your own abode?
Better yet, why just have one? Why not accumulate a mega portfolio of negatively geared, wealth-generating assets that ‘make money whilst you sleep’?
Is that not the ultimate Australian dream? To lie on a beach in Byron whilst renters deposit sweet rent checks into your agent’s trust account?
Well, I certainly bought into that narrative.
Until now.
As the family accountant, I’m intimate with the financial position of my parents. Mum and Dad retired about 4 years ago. They don’t have much in Superannuation. Instead, their retirement is funded by a handful of residential properties across S.E QLD.
They accumulated their properties in the late 90’s / early 2000’s — suburban homes that always require a bit of TLC. Throughout my teenage years, my weekends always involved, fixing walls, installing new curtains, tiling kitchens, cleaning carpets, pulling weeds, cutting palm fronds…the house maintenance list goes on.
Oh and painting. So much painting. If you’ve ever been roped into a ‘painting party’ by friends or family, you will know it was all a trap.
Painting sucks.
Anyway, I too was influenced by the ‘buying property’ narrative. So, I took the plunge on my first home in 2008 — an old Queenslander just 5km south of Brisbane CBD.
Fast forward to 2019, I recently sold it. It was a great first home, but I’m ready to part ways as I enter the next phase of my life.
11 years of being in the ‘property game’ has made me skeptical, and I’ve started to see things in a different light.
I’ve started to question was it really worth it?
What would my financial life look like if I just rented?
My wife, doggo and I are currently ‘homeless’ — which makes it the perfect time to decide…
Should we Rent or Buy the next house?
Let’s do the math
Let’s say there are 2 identical homes that you have the option either to rent or buy.
The rent for the property is $750 a week, equating to $3,000 per month. The total cost to buy the property (including stamp duty etc.) is $950k.
Let’s start by calculating the real costs in the ‘buy’ scenario.
For a $950k purchase price, let’s assume you have accumulated a 20% deposit in cash. That equates to $190k — which is a meaningful sum of money!
Based on borrowing 80% of the purchase price, that means you need to borrow $760k from the bank. Current interest rates in Australia for an owner-occupier are around 3.4% — so on a simple basis, the annual interest cost is $22,800 per annum (3.4% X $760k).
Don’t forget, homeowners also have to pay for rates, insurance, water charges and maintenance. Let’s assume these expenses cost $6,500 per year — broken down as followed:
- Rates and water charges: $2,000
- Repairs and maintenance: $3,000
- Insurance: $1,500
Total: $6,500
Unrecoverable costs
So, adding up the interest and other homeowner expenses in the form of rates, insurance etc. totals $29,300 per year. These costs are ‘unrecoverable’ meaning I don’t get anything back when I incur them. It’s basically the same as paying rent. I am borrowing money and incurring these expenses just for the privilege of owning my own home.
Total unrecoverable costs per annum to buy: $29,300 per annum
Now let’s look at the rent scenario.
My weekly repayments to rent a comparable property are $750 per week, which equates to $3,000 per month. That rent is also an unrecoverable cost — equating to $36,000 per annum.
So, I know what you’re thinking — the math is clear — owning is cheaper than renting, so you should buy!
Well, not quite.
Opportunity Costs
Remember the $190k cash deposit required for the Buy scenario? Well, having that money locked up in your home has a cost too. Finance buffs call this ‘Opportunity Cost’.
Every financial decision we make has an opportunity cost. If I invested my money in real-estate at say a 2% annual return, I could instead invest that money in the share market via an Index Fund to generate a higher return at say 7% per annum. The opportunity cost is the difference of the return I could have generated, being 5%.
Emperically speaking, the sharemarket always outperforms the property market in Australia and globally.
I know the past isn’t always indicative of the future, but people should always consider opportunity costs when deciding how to invest their money.
Anyway, with this surplus cash under the rent scenario, let’s assume I can invest this in an index fund and generate 7% per annum return.
$190,000 X 7% = $13,300 per annum return.
This is money in my pocket — so this deducts the cost of my rent.
Annual rent: $36,000
Less: returns on my share investments: $13,300
Net Unrecoverable costs under Rent scenario: $22,700
So, that changes the equation. The net unrecoverable costs per annum to rent is $22,700 vs $29,300 to buy.
So, it’s better to Rent!
OK keyboard warrior, I know what you’re thinking:
- But you haven’t considered the capital growth of your property if you buy!
- You also haven’t considered that interest expenses reduce over time as you pay off more Principal of your home loan!
- You don’t get capital leverage if you don’t own property!
- Who says I would have invested that $190k in the share market? Most people would just spend it — buying a house is forced savings!
- BUYYY A HERRRMMM!!!! O%P%UH&*F*AFRT@YO&(%*#*^%
Yes, my assumptions in this article are pretty simplistic — which is why I have prepared this fairly comprehensive financial model which factors all of the above assumptions (plus more). Feel free to play around with it.
NB: based on my inputs, renting still marginally wins over the long-term.
Ultimately, it’s an emotional decision
But of course, finances form just one part of our decision-making process.
Buying a property means you are incurring a monthly fixed cost in the form of mortgage repayments. And don’t forget all the other headaches of home ownership — repairs and maintenance, rates, land tax…it all adds up.
Property is also an illiquid asset class, meaning it’s very expensive and time-consuming to sell it. If you needed to move interstate for say a new job opportunity, you’re financially constrained and burdened to this house.
On the flip-side, the feeling and status of ‘owning your own abode’ is a real one that shouldn’t be discounted. Not dealing with crappy rental agents or being kicked out by landlords is appealing to a lot of people (including me!). Furthermore, most people suck at saving money, so having a meaningful chunk of your personal wealth locked up in your own home as ‘forced savings’ isn’t such a bad thing.
Ultimately, the rent vs buy question is more of a lifestyle decision, and less of an investment one.
But, like every financial decision you make in your life — it’s important to understand the true costs.
Everything costs something.
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Is there anything I haven’t considered?
Leave your thoughts in the comments!
