Canada's Condominium Magazine

New formula gives break-even point for home ownership versus renting

Real estate researchers say that the majority of Americans would see benefit of buying over renting in just three years. In markets like NYC and San Francisco, renting would be preferable for most.

A US real estate research company says it has come up with a better way to calculate whether it makes better sense to buy a property or rent. Their conclusion: in the United States buying makes sense for most people.

Zillow says it has a better way to calculate the standard price-to-rent ratio. The price-to-rent ratio can be used to help a potential buyer decide whether it makes sense to buy a home rather than rent one. It’s also used by investors to decide whether a property would make a profitable investment.

Acknowledging that the standard price-to-rent ratio is flawed—it doesn’t take into account all the costs that are incurred when a person buys and owns a home, and it doesn’t account for the appreciation of the home’s value over time—Zillow has come up with a new metric that they call the “breakeven horizon.” This is the number of years after buying a property at which ownership becomes more financially beneficial than continuing to rent would be. The breakeven year is the year when the cost of owning the home becomes less than renting would be.

The result of their analysis is that for most buyers in the US, buying is better than renting if you intend to stay in the home for at least three years.

To arrive at this number, they looked at homes in more than 7,500 US cities, including “all possible costs” associated with buying and renting, including down payment, mortgage, rental payments, transaction fees, property taxes, utilities, maintenance/condo fees, and adjusting for inflation and home value appreciation.

In areas where home prices have fallen significantly, the breakeven horizon is even shorter: under two years in some markets. The Miami/Fort Lauderdale area ranks among the most favourable for buyers, with a breakeven horizon of just 1.6 years. A buyer would have to live in the home for just 1.6 years to reach the breakeven point. On the other hand, in an expensive area like San Jose California, that breakeven horizon rises to 8.3 years.

A Zillow economist said that this was the first analysis that presents the buy versus rent decision in an “intuitive” way, telling consumers precisely how long they would need to live in a property before buying breaks even with renting.

To calculate the price-to-rent ratio, divide a home’s estimated value by twelve times the estimated rental price. This ratio is interpreted as the number of years of annual rent that would be required to purchase the home.

A ratio of 15 or lower indicates that ownership is less costly than renting. A ratio above 20 indicates that renting would be preferable, according to US real estate and market research firm Trulia.

Cities like Detroit and Las Vegas, where real estate markets have collapsed, have price-to-rent ratios of 7 and 6 respectivcly. New York City and San Francisco had ratios of 36 and 24 respectively, as of August 2011, meaning it would make more sense to rent there, unless a person intended to stay in the property for a very long time.

 

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