That’s an important question, since a family’s home is often its most valuable asset. And of course, the “right” answer can change with time.
To help answer the question, I dove into some exhaustive academic research published a few months ago that examined rent-versus-buy decisions in 6 major U.S. cities. The data were gathered over the 30 year period from 1984 through 2013, and were analyzed to determine which housing choice – renting or buying – resulted in greater ending wealth for consumers.
Here’s the findings:
Contrary to popular opinion, “home ownership has not always been the best financial decision for a family.” The best choice depends on a number of factors including the client’s tax bracket, returns on other assets like stocks, the client’s time horizon (how long he or she intends to stay in the home), and real estate appreciation in the client’s home city.
Shorter time horizons favor renting. Longer time horizons favor buying. However, in a surprising finding, longer holding periods do not always guarantee better results. In three of the cities studied (Chicago, Miami, and Stamford, CT), consumers who bought homes and held them for 30 years still made out worse than renters. That certainly goes against the common assumption that buying always puts you ahead.
Higher tax brackets favor buying. Buyers in lower brackets have less to gain by buying (they can’t always take advantage of tax deductions available to buyers). That means recent changes in tax law, which reduce mortgage and property tax deductions, make buying less attractive, especially in high tax states like New York, New Jersey, Connecticut and Maryland.
Buying is most attractive in rapidly appreciating real estate markets like San Francisco over the past three decades. Buying is not as good an idea, from a financial point of view, in cities like Stamford, where rents, and home prices, went up more slowly.
Renting is most attractive when returns on other types of assets – like stocks and bonds – are high. That makes sense. Having more money to put into stocks and bonds, especially when you’re younger, can jump start your portfolio. Taking this a step further, making yourself house poor by buying too expensive a home can hurt you throughout your earning years, because you may not have enough disposable income to properly fund your personal and retirement investment accounts. (And, topic for another day, research studies show stocks easily outearn real estate returns over the long haul).
Keep in mind that residential real estate and investments like stocks and bonds can be two competing investment choices. Put too much in real estate and there’s little left for stocks and your 401k, and vice versa. Ideally, you want the happy medium of having both types of investments. That gives you a more diversified portfolio, and helps even things out when real estate is in the dumps, or when stocks take a dive.