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Is Renting Throwing Away Money?

Young people face a lot of pressure from their parents and peers to own a home. Canadians in general have a high rate of home ownership at 69 percent, and in many cases homeowners have seen tremendous growth in real estate prices for the past few decades. For these reasons many people believe home ownership is the ticket to wealth and renting is a waste of money.

But is renting throwing away money? Or, just ‘paying someone else’s mortgage’? We need to show a fair comparison of the rent vs. buy scenario to know for sure.

Is Renting Throwing Away Money?

Is Renting Throwing Away Money?

Most people tackle the rent vs. buy problem incorrectly by framing it as the cost of monthly rent versus the cost of a monthly mortgage payment. The argument goes something like, “if your monthly rent costs as much as a mortgage payment on the same or similar property, then it’s a no-brainer to buy the home and build equity rather than flushing your rent money down the drain.”

Others argue that a better comparison looks at the true cost of home ownership, which not only includes the mortgage payment but also things like property taxes, insurance, and maintenance.

However, as PWL Capital’s Ben Felix pointed out in the latest Rational Reminder podcast, neither argument paints a truly fair comparison of rent vs. buy. What you need to look at, he explains, is the total unrecoverable costs in each scenario.

For example, a monthly rent payment is a total unrecoverable cost – an expense that does nothing to improve the renter’s net worth. A mortgage payment, on the other hand, only has partial unrecoverable costs – the interest paid on the mortgage. The other portion reduces your mortgage amount and therefore increases your net worth.

A winning point for home ownership, right? Not so fast.

We need to add up all of those additional costs that a home owner bears (property taxes, insurance, maintenance), plus any upfront money spent on a down payment, land transfer tax, title insurance, home inspection, etc. to close on the home.

There’s also an opportunity cost on the down payment and other closing costs. That money could have been invested instead of put towards buying a home.

Rent vs. Buy: Let’s Do The Math

Let’s look at an example of a renter in Toronto who’s paying $2,000 a month to rent a 575 square foot condo. The same condo is listed for $449,000.

To purchase the condo our renter would need to put down 5 percent, or $23,450, plus add another $17,062 to the mortgage due to CMHC insurance (required on all mortgages with down payments of less than 20 percent), for a total mortgage amount of $443,612.

Our upfront costs are not done, however, as we need to add in land transfer taxes of $10,910, lawyers fees of $1,000, title insurance of $449, plus a home inspection for $500.

Total upfront costs = $36,309. The opportunity cost of this amount in 25 years at 6 percent a year = $155,834.

Now let’s look at the unrecoverable monthly costs. The mortgage is amortized over 25 years and has an interest rate of 3.50 percent. The monthly mortgage payment is $2,215. Of that payment, $1,200 goes towards interest and $1,015 goes towards paying down the mortgage principal.

Then we have property taxes coming in at $375 per month, and we’ll also add the difference between home insurance and tenant insurance, which is $40 per month. We also need to add expected maintenance costs, which we’ll estimate at 1 percent of the property value per year, or $375 per month.

Total unrecoverable monthly costs (interest, plus property tax, plus insurance, plus maintenance) = $1,990

The unrecoverable costs for the renter and homeowner are nearly identical. The total monthly payment for the homeowner, including property taxes, insurance, and maintenance, is $3,005. Just $1,015 of that is building equity in the home. So, back to the rent vs. buy argument.

Rent and Invest the Difference

We have to assume our renter has an extra $1,015 available in their cash flow each month to invest. What are the expected returns for a 60/40 balanced investment portfolio over 25 years – maybe 6 percent?

$1,015 per month invested for 25 years at 6 percent per year = $686,627. Add the opportunity cost of the down payment and other upfront expenses and you’d have a portfolio worth more than $842,000.

Historically, many people would be surprised to learn that the return on real estate has been closer to inflation. Certainly with the run-up in home prices over the last two decades one should not expect significant gains from this asset class moving forward.

So the expected future value of the $449,000 condo in 25 years at 2 percent growth per year is $736,600.

Final thoughts

Is renting really a waste of money? Hardly. This is just one example showing how to frame the rent vs. buy comparison, but you can make a strong case for renting and investing the difference of the true cost of home ownership. Plus, we didn’t even get into the opportunity cost of the homeowner forgoing RRSP and TFSA contributions due to the higher cost of home ownership.

Who comes out ahead in this case? Clearly it’s our renter, who invested steadily for 25 years and ends up with a portfolio of $842,000. That’s compared to our homeowner who has a mortgage-free home in 25 years worth $736,600.

The next time you hear an argument that renting is throwing away money, stop and consider things like unrecoverable costs and the true cost of home ownership before drawing your own conclusion.

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36 Comments

  1. CB on November 22, 2018 at 7:53 pm

    Consider sale of principal residence can be tax free whereas withdrawal of investments may not be.

    • IsaR on November 24, 2018 at 1:59 pm

      Sale of principal residence may be tax free, but real estate commissions and closing costs are certainly not. Withdrawal from a TFSA is indeed tax-free, and you can do much to minimize tax on other registered and non-registered investments. Again, both options cost money.

  2. Hcruhc on November 22, 2018 at 8:30 pm

    We certainly considered the rent vs. buy option. For us the decision was made to buy as we wanted to ensure we were in our neighbourhood of choice for schools, activities, and friends.

    There are not a lot of rentals in the area and we wanted to control our own destiny and not be forced to move based on a landlord’s decisions.

  3. SVinTO on November 22, 2018 at 8:44 pm

    Assuming renters will have the extra cash sitting around to invest presumes a discipline I’ve never seen among anyone I know. Home ownership is essentially a forced savings plan that increases net worth. Add no tax on the sale of principal residence versus tax on the sale of that investment. Also, mortgages eventually get paid off. Rent is a never-ending expense.

    • Beth on November 24, 2018 at 12:50 pm

      I do it, and it’s not that hard, actually. It just requires a little math now and then, and setting up automatic investments. The hard part is justifying buying a place when my investments do better than a condo.

      A mortgage does come to an end, but the non-recoverable costs of owning certainly don’t. Some of my friends pay as much on upkeep, taxes, etc. on their houses as I do in rent for an apartment.

      For me, it’s a no brainer. My lifestyle suits a modest space, so owning a condo wouldn’t significantly improve my quality of life the way a family with kids benefits from owning a home.

    • Isa R on November 24, 2018 at 2:07 pm

      A discipline you’ve “never seen”? Are you saying only homeowners invest? You’re quite wrong. We rent below our means (still a beautiful place in a location few would be able to buy in) and invest most of our wages religiously. We can do that precisely because we don’t have a mortgage or taxes, or maintenance, or … In fact about half our friends do exactly that. That’s how we afford nice places in central locations and not in the burbs. To each his own, but it’s true: a lot of people don’t buy precisely so they can invest and be financially secure.

  4. CJ on November 22, 2018 at 9:19 pm

    Homeowners never view their homes as an investment. It’s the biggest investment most people will make by far, but they never time their purchase or sale. Nobody I know sold their house in Calgary after it doubled in price in 4 years, even though it was clearly a bubble. If they had they could have invested in one of the longest bull markets ever , instead they sat holding an investment that has done nothing for more than 10 years.

  5. Greg on November 22, 2018 at 9:20 pm

    As long as you are doing a fixed mortgage your cost doesn’t go up over the 30 years. Rent on the other hand will. So the spread is not as wide as stated above.
    Paying a mortgage is an enforced investment. Investing often doesn’t happen.

    Still if you are mobile, renting is probably the smart move.

    • Beth on November 24, 2018 at 12:57 pm

      Rent does go up, but so does insurance, taxes, and utilities for everyone, and the larger the space, the great the hit to the budget. For instance, rising heating costs affect me a lot less because I have three rooms, not three floors. My insurance costs are fraction of a homeowners’, so think about how a yearly increases compounds over time.

      I wish we had 30 year fixed mortgages here! The best we can do is 5.

    • Steve B on December 10, 2018 at 12:49 pm

      Hi Greg,

      One thing to consider is that if interest rates are rising, then your cost of borrowing will go up when you renew your mortgage at the end of the term.

      Steve

      • Greg on December 10, 2018 at 4:51 pm

        Well, in my case we always did fixed rate. Maybe not the cheapest, but certainly the safest. For our third house we paid cash, which is even better.

  6. Ron on November 22, 2018 at 9:24 pm

    Hi Robb

    Your argument for the superiority of renting in the Toronto condo scenario was missing two key elements.

    1.Landlords raise rent every year if they can. The $2000 rent will not remain level, but rather will likely increase by 2% every year.

    2. At least as importantly, every month the mortgage principal is paid down a little, so the interest cost drops. Thus the “unrecoverable” amount attributable to interest goes down every month and does not remain at $1200.

    Nevertheless, I do agree that there are scenarios where it makes more sense to rent rather than buy. I’m also glad I do not live in Toronto!

  7. Robb Engen on November 22, 2018 at 9:36 pm

    Hi all, good points to add to the discussion – thanks!

    Yes, rents can and will increase over time. But so can interest rates, property taxes, insurance, and maintenance (1% maintenance is pretty conservative).

  8. Jon on November 22, 2018 at 10:36 pm

    After 25 years the mortgage costs are done. Depending on life expectancy..the renter will still have to pay rent, while the mortgage free owner will just have property taxes etc to deal with.

    • Isa R on November 24, 2018 at 2:15 pm

      That “etc.” after the “mortgage is done” is a pretty significant factor. We pay less in rent than my parents pay for the “etc.” And we live in a nice place. Granted, we have no kids, but still, we’ve been in the same place for almost 20 years – very well maintained, too, at no cost to us. Rents are also controlled, so we really have a great deal. In fact, we can now buy without a mortgage but see no reason to.

  9. LA on November 23, 2018 at 5:04 am

    Most of the homeowners I know they paid their mortgage in 10 years instead of 25, including me. So if you love the area where you live and you don’t like moving a lot most of the time you will be mortgage-free in a shorter time. Then you have all the cash to invest. We bought our house in 2006 @ $350.000 paid fully in 2016 and our house value in June 2016 is $550.000. Our total interest for 10 years was $33,000 only. During those 10 years, we’ve replaced our roof for $9,400 and our Furnace for $6500.
    We saved ourselves tons of $$ in mortgage interest and we are into investing for our retirement. I think owning your home is a personal thing and to us feeling secure under a roof you own is a wonderfully happy peaceful way of living. Cheers!

  10. Potato on November 23, 2018 at 6:09 am

    Increasing costs, decreasing portion of mortgage payment lost to interest, increasing interest rates — oh noes! If only someone had made a rent-vs-buy calculator for all these moving parts! Or maybe even one with Monte Carlo magic to check variations of the assumptions!

    As for the point about discipline — you have to have discipline either way. Paying down a mortgage is “forced savings”, but it’s insufficient savings — you’ll need more than that to cover emergencies, lumpy house repairs, and retirement. If the only way you can save is through the threat of homelessness, you need a money coach, not a house. Plus it’s fair to assume people reading these blogs, listening to these podcasts, and considering the choice are not the average spendthrifts. As for anecdotes, in my circle of friends (in Toronto) it’s the renters who generally have the discipline with a portfolio and a retirement plan; [some] owners are the ones who have that magic “refinance” button they can push to just get more money to spend whenever they need it…

    And as for rent being never-ending — that’s already covered in the comparison! The renter has more than enough at the end of 25 or however many years to buy their forever house mortgage-free with money left over, or, if the price-to-rent ratio is still out of whack, the investment returns from their portfolio (plus the ceteris paribus cashflow that’s covering the never-ending property taxes, maintenance, and insurance payments) pays the rent.

  11. Robert on November 23, 2018 at 7:56 am

    I may have missed it, but was the monthly maintenance fee on the condo factored in? I saw a 1% amount for maintenance – but I assume that was for things you want to do in your condo – replace an appliance, etc. Monthly maintenance fees for a condo depend on age and amenities available in the building and can be quite costly.

    One of the other benefits – while not entirely monetary – of renting is flexibility. You get the killer job offer across the country – much easier to move as a renter.

  12. Cindy Fajardo on November 23, 2018 at 8:55 am

    There are definitely a lot of scenarios where renting is better than buying. Although I don’t agree with some of the cost assumptions, I think the important takeaway from your post is that each person should consider the pros and cons for themselves, taking into account where they live, their income /savings rates and what they feel is important in their lives to be content (e.g. mobility vs roots, etc.).

    I think it’s also important to note that you can frame primary residence as an active investment as long as you’re open to geographic arbitrage and home ownership hacks. If so, the cash flow it can generate and the capital gains protection far outweigh the irrecoverable costs (including moving costs) and far exceeds 6% per year. Just have to do the math for each person. 🙂

  13. Irene on November 23, 2018 at 1:46 pm

    I like the analysis as it looks at things from a differend perspective than most rent or buy analyses. I would like to point out that your analyis still oversimplifies. It assumes the unrecoverable costs in relation to mortgage interest is fixed. It is not. The unrecoverable cost goes down as you pay off your mortgage. In addition, achieving a 6% return is overly optimistic after you factor in investment costs. I would estimate that 3- 4% might be a more reasonable amount to use. This is a number that ROb Carrick floated at a recent presentation he did in Ottawa.

  14. Matt on November 23, 2018 at 3:50 pm

    If you consider the same rent continuing, that ~$100,000 difference is burned off less than 5 years after that house is fully paid off. And, if the home owner invests the $2200 that they now don’t have to pay in rent/mortgage, that difference only continues to look better and better for the home owner every year.

  15. Tania Ilieva on November 23, 2018 at 4:32 pm

    Who gets 6% return on there investments each year? And why do you think that the rent will stay 2000/month for the next 25 years? I own my condo and every time when I renew the mortgage is smaller. Your calculations are not inflation adjusted.

  16. Colin on November 24, 2018 at 9:56 am

    The article missed the mark for “Canadians in general”, as referenced in the preample, whether owner or renter. The assessment caters to potential, and disciplined, investors who can live in 575 sq. ft. for 25 years in a big city.

  17. Christina on November 24, 2018 at 10:58 am

    I think what your post fails to recognize is the hassles associated with renting.You may be kicked out and have to move somewhere with higher rent. I also agree 6% is not realistic for a yearly investment return

    • Christina on November 24, 2018 at 11:19 am

      Also, just a comment that lets says you pay off your condo at 60 and have 25 years left in your condo. If you pay 1000 more renting that works out to 300,000! Scary And i don’t think retirement is when you want additional expenses.

      • Isa R on November 24, 2018 at 2:45 pm

        Christina, I’m not sure what you’re saying. Once you pay your mortgage, your condo fees (not insignificant!), property taxes, utilities, occasional board-mandated maintenance, etc. just disappear?

  18. Isa R on November 24, 2018 at 2:37 pm

    Smh, people, all your “after the mortgage” variables have been analyzed and covered. Why do you think others haven’t considered and accounted for those basic factors? Some ppl are still looking at “mortgage vs. rent” as if taxes, insurance, utilities, ever-increasing maintenance as the house ages or condo fees magically disappear, and as if the returns on renters’ investments just go poof and no longer yield anything. And you’re right, 6% is not necessarily your return. This bull market has yielded a boatload MORE. Both the returns on houses and the stock market have been abnormally high these past couple of decades, and going forward it’s unlikely that either houses or investments will appreciate at current levels. However, historically, houses certainly don’t beat markets. It comes down to a lifestyle choice, and an emotional one. I certainly can understand why you would want your own place if you have a family, or if you’re just craving to put down roots. Fair enough. But financially, you’re not necessarily ahead.

  19. SVinTO on November 24, 2018 at 2:45 pm

    Having rented, I know that landlords can also find a way to evict if they want. (Renovation, or claiming the unit for themselves are ways landlords I rented from got my apartment back.) As long as you pay your mortgage you have housing security, and the mortgage eventually gets paid off which eliminates that cost. Rent is forever. Cash gone to the landlord to pay off his mortgage. Paying off my mortgage was my forced savings plan.

  20. Christina on November 24, 2018 at 3:04 pm

    You save on your mortgage cost and i know for me even factoring in strata fees, property taxes and money allocated to special assessments, it will be substantially cheaper then renting once i’ve paid off my mortgage. In fact i am in the unusual situation now where it is cheaper to own then rent.Everyone has to do their own math. If you strike a good rental situation you can definitely do better.

  21. anony on November 24, 2018 at 8:57 pm

    excellent analysis which few planners or advisers get right. their bias also intrudes. real estate agents are the worst.

  22. Alex on November 25, 2018 at 6:54 am

    Hi Robb,

    Great article! Too many people don’t look at the full cost of ownership.

    We created a Rent vs Buy tool on our site that essentially allows people to do the math you outlined above on their properties in a very simple way.

    Looking forward to your next piece.

  23. Ryan on November 30, 2018 at 8:30 am

    I rented for 5.5 years with my spouse at $1,100/month. Household income was $81K to $105K before tax from year 1-5. We’re now buying our first home with $100,000 (20%) down that we accumulated through savings. I never mowed a lawn, never paid property tax, never paid for water, hydro, shoveled a driveway, paid for the new furnance 2 years ago… This sounds like a brag but it’s not – I’m illustrating that renting is by far a waste of money for young people (I’m 28). Just comes down to discipline. Just because I know Rob will get a kick out of this, all of my friends bought houses with 5% down over the last few years because “renting is a waste” – and some of them are now up to their eyeballs in debt. The kicker? They all have $700+/month truck payments.

    • Steve Bridge on December 10, 2018 at 12:52 pm

      Hi Ryan,

      I liked all of your points but you wrote that ‘renting is by far a waste of money’. I think you may have left out a word because everything else you wrote appears to espouse the opposite. Just checking that I haven’t misread or misinterpreted.

      Steve

  24. Heather k on December 1, 2018 at 11:41 am

    I’m so glad we own our own home. We bought our first home in 1984 for $88000.
    Sold that house in 5 years at $288000.
    Twenty years after that we saw it listed for over $700000.
    We never would have saved that much money.
    And at least we don’t have a landlord who can tell us we need to move because he’s selling

    • Robb Engen on December 1, 2018 at 12:55 pm

      Hi Heather, those stories are certainly impressive, especially when you see big numbers like $700,000 thrown around.

      I always like to go back and do the math on what kind of annual return that would be and what I found in your example is that your 1984 home at $88,000 has appreciated at a rate of 6.29% per year to now be worth $700,000.

      The average return of the S&P 500 stock market over the last 34 years has been 6.56%.

      When you break it down that way it’s not the slam dunk that many pro home ownership advocates make it out to be.

  25. Jim P on June 20, 2019 at 2:29 pm

    And the answer is…. Become a landlord. Buy a home with a rental suite to cover a portion of your mortgage payment and use the rent money to pay down your mortgage. Then use the equity to buy a 2nd property that cash flows and rinse and repeat for the rest of your life. Get those lovely people who want to rent ( buying is not for everyone) to pay the mortgages on all of your properties. Then retire on the cash flow from all of your properties ( because they appreciate and rents always go up) or sell them all off and move to the south of Spain where you can enjoy a bohemian lifestyle. Don’t forget to thank all of those renters for helping you retire early.

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