The monthly affordable rent as a percentage of monthly income is what we call the rent to income ratio. Tenants should keep this ratio within 30 percent of their monthly gross income. With a shortage of rental units in some areas, it may not be possible. In this situation, a tenant would have to spend more than 30 percent.
In my example, we have a person or couple that makes $100,000 a year or $8,333 per month. Thirty percent of this monthly gross income would be $2,500 which would put them at the top of their ratio on rent.
If they were to buy a $300,000 home on an FHA loan at 3.00% for 30 years, the total payment, principal, interest, taxes, insurance, and mortgage insurance premium would be around $2,034 or almost $450 less per month than their rent.
If we were to factor in the monthly principal reduction that happens when you make your monthly payment and we assume their home will appreciate at 3 percent annually, the net cost to you to own the home would be under $1,000 a month. You would be paying around $1,500 more a month to rent than to own. By the end of the year, you would lose over $18,000 by renting which is a higher dollar amount than a $10,500 down payment for an FHA loan and closing costs.
|Rent vs Own Example|
|Mortgage at 3.00% for 30 years||$294,566|
|Monthly Payment … principal & interest||$1,241.90|
|Monthly Tax & Insurance escrow (estimated 2.25%)||$562.50|
|Total Payment (PITI + MIP)||$2,033.89|
|Less Monthly Principal Reduction||$512.50|
|Less Monthly Appreciation||$750.00|
|Plus Estimated Monthly Maintenance||$150,00|
|Plus HOA fee||$20.83|
|Net Cost of Housing||$942.22|
|Monthly Rent for Comparison||$2,500|
|Monthly Cost of Renting vs. Owning||$1,557.78|
|Annual cost of Renting vs. Owning||$18,693.30|
|Estimated Equity after 7 years at 3% Appreciation||$121,579|
Although there is one benefit to renting, the renter is not responsible for maintenance and repairs. At the end of a lease, the renter just moves on without the worry of disposing of a home. But they do not benefit from the increase in the value of the home through appreciation nor do they get the built-up equity happening through loan amortization.
Since it considers both appreciation and amortization, let’s disregard the monthly net cost of housing in my example above, the payment alone is still over $450 less than the rent in the example. Looking at cumulative results, a $10,500 down payment or initial investment grows to $121,579 of equity in seven years. The owner of the home, who deals with the additional risk, reaps the equity rewards as well as the lower cost of housing.
When renting, your landlord receives the benefits of appreciation and equity buildup, period. Whether you rent or buy, you pay for the home you occupy…either for you or for your landlord.
To plug in your own numbers, go to the Rent vs. Own. If you have questions about the calculator or would like to visit about anything, give me a call at (703) 303-4010.
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