Dax’s Data: The Monetary Benefit of Homeownership
Searching the internet for whether homeownership is actually valuable will leave your head in a daze. Major players in the real estate investing space will argue that you shouldn’t own a primary home, others will argue that you shouldn’t take on any debt, and many more will encourage you to accumulate as much real estate as possible. So many varied opinions pulling in every conceivable direction only adds to an already overwhelming decision and leads to the inevitable buyer thinking “am I making the right decision?”
I could just say “yes” and end the blog right here… If you have been reading my blogs for a while now, you know that is just not my style. I like to provide evidence to back up my opinions and let me tell you, the evidence for homeownership is strong.
To understand why you should be a homeowner, we need to identify the many benefits of homeownership. Pride of ownership and the ability to make a house a home are obvious benefits but I want to focus on the financial benefits of homeownership: debt paydown, appreciation, and tax benefits. If it were an investment property, there would be even more: rental income and rental property depreciation.
To best understand the financial benefit of homeownership, we need to walk through a scenario:
- Buying in Santa Cruz, CA
- Using a 30-year fixed mortgage at 5% interest rate
- Married- Filed Jointly
- Cumulative Income: $350,000
- Purchase Price: $1.5M
- Down Payment: $300k
- Mortgage Amount: $1.2M
- Monthly Payment: $6,441.86
To bring this couple to life, let’s assume that they are first-time homebuyers who plan on starting a family soon so they want a 3+ bedroom and a nice yard for their pup. They are both successful in the Tech industry and are compensated well for their skills. They love the lifestyle of Santa Cruz and now have the benefit of working from home. Add on the fact that Santa Cruz is also 30% cheaper than Silicon Valley, it becomes a very attractive choice. They are weighing the decision to Rent or Buy. They hate to move and they hate change so they are committing to the 5-year plan. Let’s call them Jack and Jill.
A pretty sweet deal of a 3×2 rental for $5000 just came on the market.
If they Rent:
The math is pretty straightforward here. If they rent for 5 years at $5,000 per month, they will have paid $300,000 to someone else.
NOTE: This doesn’t even account for the potential of continually rising rents.
If they Buy:
This tax rate is for a married- jointly filed couple that is making $350k cumulatively.
The monthly payment with principal and interest in this scenario is $6,441.86. You also have additional costs such as property taxes, utilities, and repairs/maintenance. Adding property taxes to the equation the monthly cost expands to $7,979.36.
At first glance, renting seems like the obvious choice but let’s dig deeper.
One of the benefits of owning is that instead of paying off someone else’s mortgage, you are paying off your own. The Principle Paydown is the portion of the payments that go toward actually paying off the house. With an amortization schedule, the majority of the early payments are going toward interest on the loan but as you pay it off over the years, more goes toward the principle. This allows you to build equity in your home. After five years, the equity built from debt paydown is $98,055.21.
Another huge benefit for homeowners is the tax benefits. The interest that you pay on your mortgage is tax-deductible as is the property tax (although the property tax deduction is capped at $10,000 per year). After five years, the cumulative tax benefit is $142,667.04.
Historically, Real Estate prices go up over time so it’s safe to predict the value of your home will continue to rise after purchasing. We assumed a highly conservative 3% annual growth rate. For reference, the Cumulative Annual Growth Rate (CAGR) in Santa Cruz County since 2010 is 7.6%. After five years, the value added from appreciation is $238,911.11.
After 5 years, the cumulative homeowner benefit is $479,633.36.
After 5 years, the cumulative benefit of not paying rent is $300,000.
After 5 years, the cumulative expenses (interest and property taxes) are $-380,706.35.
After 5 years, the NET benefit of homeownership vs renting is $398,927.01.
In the example above, homeownership would pay these potential homeowners about $80,000 a year!
So, back to the question at hand, should this couple rent or own?
If Jack and Jill rent, they are paying $300,000 over 5 years. They have built no equity, paid down no debt, nor experienced the pride of homeownership.
If Jack and Jill own, their monthly payments are significantly more expensive. However, they are receiving the benefits of homeownership in principle paydown, tax savings, and appreciation. Their cumulative benefits exceed their monthly total expenses. This means they are building wealth by just owning the home. Add to that they aren’t paying rent and are experiencing the NET value of homeownership, the overwhelming answer to the question is:
Homeownership > Renting
NOTE: if you’d like to plug in your own numbers on the sheet I created, click HERE.
Wrapping up, analysis and data help us sort through the noise to make high-quality decisions. The data makes a couple of things crystal clear: homeownership is extremely valuable, renting is not. Homeowners are the painters on an open canvas. They have the opportunity to create and add value. They have an opportunity to turn a house into a home. They have control of their own destiny and, if their vision is right, they can add significant forced appreciation to the home. Homeownership represents opportunity, creativity, freedom, and future. It just so happens that, monetarily, it’s a really sound financial decision.
So, buyers, if you are asking yourself “am I making the right decision?” the answer is a resounding YES!