Renting is the better option for most people.

Renting a place to live is superior financially when compared to homeownership. Few people believe this statement but it’s true.

Most people, especially millennials, have heard people say if you rent “you’re just paying the landlord’s mortgage for him”. Another version is “renting is just like throwing your money away”. A more extreme variation: “Renting is taking your money, dousing it with gasoline and lighting it on fire.”

As one millennial-aged person told me, “only losers rent.”

So what is the financial cost of homeowner status compared to renting?

A problem with comparing renting to owning is the fact that people don’t account for total ownership costs. While rental cost is easy to calculate – in Canada it ranges between $1,000 and $2,500 per month - the full cost of ownership is invariably underestimated.

Source: The Economist

A typical mistake involves taking the mortgage payment, which might include interest and principal repayment plus property taxes amortized over twenty-five years and assuming that is the total cost of ownership. As any homeowner can tell you that’s only part of the story.

I took a recent report from MoneySense as a guide to rent costs. The average rental for a one bedroom in Toronto and Vancouver is just under $1,100 per month. A search for 2 bedrooms and two baths at $1,300 per month showed a large number of ‘hits’ in the Edmonton area

So what about the cost of owning a property? In Alberta the average cost of a home is $400,000 based on information provided by the Canadian Real Estate Association or CREA.

 

Ownership Cost

Cost of capital @ 4% (imagine that an owner paid cash for the house or apartment/condo). That number represents what the money could earn by investing in preferred shares of relatively low-risk companies.

$400,000 @ 4% = $16,000 per year.

Property taxes = 0.5% or higher = $2,000 per year.

Maintenance, insurance and refurbishment = 1.5% per year = $6,000 per year.

Total cost per year = $24,000 OR $2,000 per month (6% of the purchase price in total cost)

 

So the cost of renting, at $1,300, is about $700 per month cheaper than the cost of owing.

Any major renovation or “special assessment” could be as much as 4-10% in addition to these costs. People believe that a renovation is an investment but it’s really a cost.

One more example - I was in Vancouver near Coal Harbour recently. A ‘for sale’ ad showed a $1.2 million price for a 1,000 square foot condo. Close to that condo an apartment building overlooking the ocean rents two-bedroom units of similar size for $2,500 per month.

So in Coal Harbour the cost of owning is about $6,000 per month compared to $2,500 in rent, a vast difference. At the higher end the spread is wider than for average-price dwellings.  

Of course, this spread in favour of the renter doesn’t count the capital value that would be lost if a major house price correction hits. Renters would be much, much better off financially after any correction, even a mild one. For example, a correction of 5% per annum (p.a.) means a loss of $20,000 p.a. on the average dwelling in Canada, or about $1,700 per month. This means the renter is living for free by avoiding the loss in value that comes with owning.

The numbers just don’t add up for owning a home either at the average price or the high end, especially when there’s a correction in house prices. If the bubble bursts, it will be renters who win. So who’s the loser, really?

 

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