Curbed University is our new NYC real estate how-to section. We spent our first few classes breaking down the intricacies and oddities of NYC's housing inventory. This week, we're moving on to the preparation and search portion of the syllabus. Today's subject: will you be a better person if you buy your apartment?
Behold the two most common maxims of financial responsibility: 1) max out your 401(k) and 2) don't throw money away on rent. We'll leave the wisdom former for Retirement Planning 101 (Tuesdays next semester in room 206). As for the latter, well, it's complicated.
Let's warm up with some numbers: Two-thirds of New Yorkers rent, almost twice as many as the national average. That may have something to do with the median NYC selling price, which has been hovering around $1 million of late. Meanwhile, the average 2-bedroom rental goes for $3800 per month, no picnic either. (More figs here and here.)
From here, the equation gets a little trickier. Beyond the sticker price, there are a host of other factors that go into each buy versus rent calculation, including whether you've got the cash to pay for the downpayment and closing costs and the credit score to qualify for a mortgage, what sort of broker fee you'd pay on a rental, whether you want to be paying for your own repairs, how long you're planning on staying put, the likelihood of appreciation or increased rent, and how much you value the idea of owning your home.
Many smart folks have covered this ground before, and we encourage you to play with their tools, spreadsheets, and ratios. One of those smart folks, Felix Salmon (see here, here, and here), was kind of nice to join us for the following IMterview on the subject.
CurbedU: so is it possible to pinpoint a most important variable in the rent v buy equation?
AdjunctProfSalmon: Well the absolute simplest first-order way of looking at it would just look at monthly costs. How much is the monthly cost of renting a place, and how much is the monthly cost of buying. It's a very useful place to start.
CurbedU: there's a fair amount that goes into coming up with those numbers, right?
AdjunctProfSalmon: not really. Rents are relatively well-known, and mortgage rates are quite easy to find online -- most realtors have mortgage cost calculators which even include maintenance and taxes. So to a first-order ballpark approximation, if you know how much money you have as a downpayment, it's quite easy to see which of the two will cost you more on a monthly basis
CurbedU: makes sense, but how about the great unknowns?owner's repairs, etc.?
AdjunctProfSalmon: right. A lot of people really want, psychologically, to own their home. So they concentrate on the positive unknowns, like house-price appreciation and rent increases -- the ones which make it more attractive to buy rather than rent. They spend less time worrying about the negative unknowns, like owner's repairs or house-price depreciation, which would make it more attractive to rent rather than buy. And then of course there's the whole business of selling your house, if and when you decide to move: that can be both hard and expensive.
CurbedU: is the upside psychological element overrrated?
AdjunctProfSalmon: that's a really good question. I think there really is genuine psychological value, for many people, in owning their home. Trying to put a dollar value on that, of course, is impossible
CurbedU: yes, not going to be in the calculators
AdjunctProfSalmon: but it does help explain why it's nearly always going to be more expensive to buy than to rent. and that's ignoring the fact that people tend to buy bigger homes and apartments than the ones which they rent
CurbedU: interesting point
AdjunctProfSalmon: when you rent you're concentrating on the cost, which is perceived to be "wasted", so you try to minimize that cost by renting a smaller place whereas when you buy you think of your house as an asset, so the monthly payments aren't "wasted" in the same way. But in reality your only asset is your equity in the house: its value, less the amount of your outstanding mortgage. The rest of your payments are just as "wasted" as your rent payments would be.
CurbedU: yes this "wasted" bit always struck us as a little harsh
AdjunctProfSalmon: and these days, of course, there's a very real risk that a house will behave much more like a liability than an asset...
CurbedU: v true
CurbedU: do you feel that nyers do or should consider the equation differently?
AdjunctProfSalmon: well, it's certainly harder to find a place to rent here?and the fees associated with renting a place are much higher than they are elsewhere (note that in the NYT"s excellent rent-vs-buy calculator there's a whole section where you put in the rental broker's fee)
CurbedU: on the other hand it's hard to come up with the $200k downpayment for the median apt
AdjunctProfSalmon: in a sense, the downpayment issue should make this decision easier for New Yorkers. if you can't scrounge up a downpayment, then problem solved. You're renting. Enjoy it!
AdjunctProfSalmon:There's a good chance that financially that would be the right choice anyway, especially with NY apartment prices as fluffy as they are right now
CurbedU: so don't beat yourself up over it
AdjunctProfSalmon: It can be nice, knowing that whenever your dishwasher breaks or the heating goes on the blink, your landlord is responsible for fixing it
CurbedU: have had that feeling many times
AdjunctProfSalmon: And I've known lots of people who've bought small apartments in Brooklyn for themselves -- the only thing they could afford -- who then meet their soulmate and have big problems because they want to move in together, their apartment is too small, and they don't want to sell
CurbedU: ah love
CurbedU: you've written about buying as a commitment device. can you explain that a bit?
AdjunctProfSalmon: Most rent-vs-buy calculators will assume that if you don't put money into a downpayment, you'll invest it in the market somewhere. and that any money you don't spend on excess mortgage costs over and above the cost of renting will also be invested. but of course neither of these assumptions is particularly realistic. a mortgage can be looked at as an enforced savings mechanism. people find it hard to save money, but you have to pay your mortgage every month, and thereby build equity
CurbedU: better than an extra plasma for the kitchen in your rental
AdjunctProfSalmon: I guess you could say that if you rent you're more likely to have disposable income, to be cash-rich. If being able to spend money freely is important to you, then of course it's silly to buy an apartment with a whopping great mortgage which takes up most of your income. On the other hand, if you really want to save your income but know that you'll spend it if it's just lying around in your checking account, then having a mortgage is a great way of reducing your discretionary spending
CurbedU: nice way of thinking about it
AdjunctProfSalmon: plus of course your downpayment becomes a highly illiquid asset. That too can be looked at as either a good thing or a bad thing, depending.
CurbedU: any else glaring we haven't covered?
AdjunctProfSalmon: well there's tax-deductibility
CurbedU: yes of course
AdjunctProfSalmon: buying becomes more attractive the higher your tax bracket. but it's worth looking at your tax returns to see if you itemize your deductions or if you just take the standard deduction. If you buy a big apartment in Manhattan and take out a 90% mortgage, yes you're going to be itemizing and deducting -- but with smaller purchases or smaller mortgages that's not always the case.
CurbedU: tax deductibility is sometimes presented as something that will erase all of your extra ownership costs. but it's a little more complicated than that
AdjunctProfSalmon: definitely, you need to crunch the numbers on a case-by-case basis
CurbedU: send your returns to felix@...
AdjunctProfSalmon: and also realize that you're talking about getting money back at the end of the year, you still have to make that full payment every month
AdjunctProfSalmon: I just got back from 4 months in Germany, where everybody rents, often for many decades
CurbedU: interesting. they must not have gotten the "wasting" lecture
AdjunctProfSalmon: and of course in NYC if you're lucky enough to be in a rent-controlled apartment there's no way you're moving out. oh, there's also one other NYC-specific thing to bear in mind: buying as an insurance policy against being priced out of your neigborhood. Although you might want to ask yourself whether you'll still really want to live in your neighborhood if rents say double from where they are now and you can't afford to live there any more.
CurbedU: well this was extremely helpful, thanks very much
Tales from the front encouraged in the comments. Don't all talk at once, please.
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