Rent vs Buy a Home: Decide on the Better Option

To rent vs buy a house – Which is a better option? This is a question almost every Canadian consumer has had to ask or will eventually find themselves asking.

Homeownership is the stereotypical Canadian dream. So whether you are just starting your career or you are a family looking for stability, this question will likely come up. 

Both options have unique financial responsibilities, rewards, and risks that you have to consider. The good thing is this article covers all the factors you need to consider and helps you make an informed decision. 

In this article, we’ll discuss the age-old rent vs buy arguments, the benefits and downsides of renting or buying a home, what both options will cost you, and ultimately how to decide between rent vs buy. Let’s get started!

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The Rent vs Buy Argument

Renting or buying a home isn’t inherently good or bad. Buying a home used to be a measure of financial success, but now many people argue it’s not always a smart decision

To address this issue and make a verdict, let’s see the two sides of the argument.  

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The Arguments in Favour of Renting a House

One major myth about renting is that you are throwing money away on monthly rent. This is false because you need shelter, and having a place to live will cost you money. Monthly rent payments build no equity but not all homeownership costs build equity either. 

When you buy a house, you pay for things like mortgage origination fees, property taxes, loan interests, annual homeownership costs, and even repair and maintenance costs. These are things you won’t pay for as a renter, which is why this is one of the arguments in favour of renting. 

When you rent, you know what you’ll spend on housing each month. On the other hand, homeownership can come with additional unexpected expenses after your mortgage and regular bills. There’s always a house project you’ll want to handle, from replacing a rusted pipe and repainting the room to fixing a leaking roof or mowing the lawn. 

Your landlord will take care of these repairs and maintenance if you rent, but if the house is yours and the expenses are not under your homeowners’ insurance coverage, you’ll have to pay for this cost in addition to your regular expenses. 

Another argument in favour of renting and against homeownership is your home can lose value. A major employer can leave the area, causing people to move, or there could be a residential construction surge, which could keep prices down. In situations like this, your house may not increase in value in years, meaning you’ve lost money after inflation.     

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Arguments in Favour of Homeownership

Arguments in favour of homeownership emphasize that renting does not offer stability. While it offers you the flexibility to move at the end of your lease, it also means if your landlord decides to go in a different direction, you could have to move suddenly. Or they could just raise your rent over what you can afford. 

Therefore, as a renter, unless your house is rent-controlled, you face unpredictable rent increases every time you renew your lease. In contrast, with a fixed-rate mortgage, your monthly house payments will remain the same. So, homeownership brings you intangible benefits like stability and pride of ownership.

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Rent vs Buy: The 5% Rule

People often underestimate and misunderstand the costs of homeownership. The 5% rule clarifies the rent vs buy issue. The rule states that the annual unrecoverable homeownership cost is approximately 5% of the property value (irrespective of if you have a mortgage or not). 

If your rent is lower than paying for a comparable home, you should continue renting. But, if your rent is higher, you’re better off buying a comparable home.

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What is Total Unrecoverable Cost?

This is the amount you pay for a property that doesn’t yield residual value. When paying off a mortgage, residual value is the home equity you build with time, and it is a financial asset you can leverage later. The total unrecoverable cost covers three costs:

• Property Taxes
• Home Maintenance (excluding renovations)
• The cost of credit – This can be the cost of borrowing money with your mortgage, which will attract interest. It can also be the opportunity cost of investing your money in a house rather than in other lucrative investments.

With rent, the total unrecoverable cost is simply your rent payment. Since you don’t own the home, your rent doesn’t go towards an investment or purchasing an asset.

Property taxes are about 1% of your home’s annual value each year, maintenance costs are equally around 1%, and the cost of credits is generally up to 3%. This is where the 5% rule comes from.

If the rent is less than 5% of a comparable home’s yearly value, you can keep renting and investing your savings in an RRSP or TFSA. But, if the rent is more than 5% of the home’s value, buying is a good option.

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Mortgage vs Rent? Benefits and Downsides of Buying a House

Benefits of Buying Your Home

Stability

Buying and owning your home means you are in control. You can make any changes around the house without asking a landlord or property manager. Your fixed-rate mortgage payment stays the same and there’s no unexpected hike in monthly payments. It also means you won’t suddenly get evicted because your landlord has new plans for your apartment.

You’re Building Up Equity

Every monthly mortgage payment helps you build equity in your home. Although a part of your mortgage payment goes towards paying off your mortgage interest, the rest is paying the actual mortgage. So, each monthly payment brings you closer to owning your place. You can’t get this from renting.    

A Good Long-term Investment Strategy

If your home goes up in value and you decide to sell, you will pocket the additional home equity and make capital gains. The general rule of thumb is to retain a property for at least five years to reap all home appreciation benefits. 

If you were renting, your landlord would be the only one to benefit from the home’s appreciation. A price rise could even cause your landlord to increase your rent or sell the house. 

Homeownership Might be Cheaper

Generally, you’ll pay higher monthly payments than you would if you were renting the same home. However, you might find it cheaper when you subtract the part of your monthly payment going towards paying down your mortgage principal. 

Privacy

 As a homeowner, you have your privacy and freedom to behave as you please. There’s no landlord to police your every move.

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Downsides of Buying Your Own Home

Regular Maintenance Costs

Your landlord handles the home’s upkeep when you are renting, but a homeowner has to foot the regular maintenance and repairs bills. 

Long-term Commitment

Homeownership is a commitment. You can’t just break your mortgage or sell your house overnight. Plus, you have to wait at least five years to sell the home to make full profits. 

Less Disposable Income

Owning a home comes with huge responsibilities and debts. Sometimes, a big part of the homeowner’s income may go towards paying off the costs of homeownership, leaving little for other investments(such as RRSPs or TFSAs), needs, and wants.   

ROI Can Be Slow 

You may not get an immediate return on investment. It can take time for your home’s value to appreciate. 

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Buying vs Renting a Home? Benefits and Downsides of Renting a House

Benefits of Renting a Home

Renting a home comes with these perks:

Renting is Cheaper

Generally, when comparing mortgage vs rent, renting is cheaper in the short term. Your rent payments may cover costs like utilities, cable, hydro, and internet. Renting can also give you more dispensable income to invest or spend on other needs or wants.

Little or No Maintenance

Renting involves less hassle and maintenance. You save money on maintenance, repairs, or similar issues while your property manager handles them.

Renting is Flexible

Most leases are yearly. But, you can get a monthly lease agreement or even a short-term rental on a home-lending website. Renting doesn’t tie you down to a location; you can move out of a place after your lease ends. In contrast, you will face financial penalties when you break a mortgage. 

Financial Freedom

 As a renter, you’ll possibly have more free cash to save and invest in the stock market, your education, a GIC, towards a business, or retirement planning such as RRSPs or TFSAs. With hard work, some of these investments could even pay off more than owning a home could. 

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Downsides of Renting a Home

Renting also has some unattractive sides. These are some not-so-great sides to being a renter:

Instability

Renting doesn’t offer the stability that comes with having your own home. Your landlord can increase your rent per local laws, and this hike could trigger you to start packing. This is not only inconvenient; it can cause a full-blown financial meltdown if you are cash-strapped.

The Landlord is the Boss

Renting means you’re living on someone else’s wave. Although laws guide landlords, they still call the shots, and you have to abide by them. 

You’re not Building Equity.

While you are free from monthly mortgage or maintenance bill payments, you also miss out on building equity as a renter. Instead, your monthly rent payments go towards paying off your landlord’s mortgage.

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Factors to Consider before Buying vs Renting a Home

Before you decide between rent vs buy,  analyze your present financial state, your present financial situation, and short and long-term goals. Here are a few factors you should consider when weighing both sides:

How Stable is Your Employment Status?

Without stable employment, it’ll be difficult to convince a lender to give you a mortgage. However, it’s one thing to qualify for a mortgage and another to meet the monthly obligations.

You have to make your mortgage payments consistently every month, which will be tough without a stable income. In this case, consider your employment stability to know which of the options you can afford.

How Long Will You Live in the House?

The general rule of thumb is the longer you stay in a place, the better the investment since your costs spread out over time. Transferring real estate also attracts many costs. If you aren’t staying in the house for long, renting may be a better option.

Consider the 40 Percent Rule

According to the “40 percent rule”, forty percent of your gross income should be able to cover your housing costs (taxes, heat, principal, and interest), plus other registered debts like credit card and car loans. 

Many lenders apply this rule to determine people’s qualifications for a mortgage. Likewise, 50 to 60 percent of your net monthly income should cover other monthly costs like food and transportation. Anything more, and you might struggle.

Your Rent is not Equal to a Mortgage Payment.

Paying an amount in monthly rent does not mean you can afford to pay the same monthly mortgage payment. The actual cost of homeownership is usually around 40% higher than your mortgage payment after adding additional costs like property taxes, utilities, insurance, and maintenance. So when looking to either rent vs buy a home, keep this point in mind. 

The Cost of Housing in the Area

Many people opt for rent because houses are expensive. However, this depends on the location’s housing market. If renting is highly costly in your location, buying a home might be more affordable. To determine this, compare the cost of mortgage payments to the cost of rent n the neighbourhood. 

For example, in thriving housing markets like Toronto and Vancouver, mortgage costs may be notably higher than rent payments. Generally, if you pay over $3,000 every month in rent, you probably can do better on a mortgage.

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Decide Between Renting vs Buying a House 

Now that you know all the factors to consider, the two options offer benefits and risks, so it may be difficult to decide. To make it easier, we’ve compiled these conditions:

When Should You Rent

➤ You’re carrying huge debt. If you have debts such as student loans, credit cards, car loans, etc., concentrate on paying them off first before buying a home.

➤ Your long-term plans are not clear, and you’re not ready to settle down. If you may be going back to school, taking a job in another country, etc., pause your homeownership plans. 

➤ If you can’t afford the monthly mortgage payment and other homeowner expenses, renting is a better and more affordable option. 

➤ You want to invest your savings. Renting will give you more financial freedom to pay regularly into your RRSP or TFSA investment account.

➤ You’ve not saved a down payment. If you don’t have a down payment saved up, continue renting. You can create an automated savings plan to a high-interest TFSA account that’ll yield what you need for the down payment after a few years.

➤ You have temporary employment. If you are self-employed or your job is temporary, your best option is to spend some years renting and saving up for a down payment. That way, you can produce two years of tax returns from the Canada Revenue Agency.

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When Should You Buy

➤ You’re financially stable enough to take on the costs of homeownership. You’re also debt-free and have saved up enough money for a down payment and to settle closing costs. 

➤ If you’re ready to settle down and you won’t be moving in five years or more.

➤ Suppose you’re ready to make financial sacrifices. You may have to let go of some things you enjoyed when you were a renter due to the financial implication. For example, going on several trips a year, etc. 

➤ You have a stable income source and won’t be making any sudden career changes that could affect your income. If you’re self-employed, you need to provide at least two years of CRA Notices of Assessment to show the mortgage lender that you have got a steady stream of income coming in.

➤ If your rent is more than 5% of a comparable home price, consider buying a home.

➤ You want stability in your home and the option of renovating to your taste. 

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How Much Does Home Ownership Cost?

Have you decided on homeownership? The next step is to survey the financial obligations linked to homeownership. Estimate the costs with these guidelines.

• Down Payment: 5 to 20 percent of the total cost. This is the standard amount you have to pay to apply for a mortgage. If you pay less than 20% of the purchase price as a down payment, you’ll need to pay CMHC insurance. CMHC insurance is a compulsory mortgage default insurance policy for people who purchase a home with a down payment below 20%.

• Closing Costs: 1.5 to 5 percent. It includes appraisal fees, lawyer fees, property tax adjustments, and home inspection fees.

• Home Insurance: $50 to $100 each month.

• Maintenance Costs: 1 to 2 percent of your annual income.

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Our Verdict – Rent vs Buy: Which is Better?

Regarding renting vs buying a house, there’s no superior alternative. Deciding on one requires some planning and financial scrutiny on your part. Consider your present financial and personal situation, location, short and long-term goals.

If you decide on homeownership, do your research and shop around for the best mortgage lender to get the lowest interest rate possible. However, if you decide to remain a renter, take advantage of the situation and set up an automatic saving plan to one of the best online brokerage or Robo advisor’s investment accounts.

Even though renting doesn’t offer you the benefit of building equity, you can save your disposable income and build wealth. Overall, the two options- rent vs buy, offer benefits and risks. Use our guidelines in this post to make a realistic and knowledgeable decision. 

If you’re still confused about the better choice for you or want personalized help, discuss your options with a financial advisor.

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