When do you know it’s the right time to buy a house instead of renting? Is it better to rent until you have a sizable downpayment? (Let’s assume the plan is to stay in area so buying to have to sell right away isn’t likely.)
There are some good generally agreed upon heuristics for when not to buy.
#1. (As you point out in your question…) Don’t buy unless you’re planning on sticking in the same place for at least 5 years. Housing markets bounce up and down, with a general upward slope overall, and you’re less likely to be underwater if you hold onto the house for a while (note: this is the same heuristic as the one for investing in the stock market!). Being underwater when you’re living in a house isn’t a big deal (and may mean your property tax drops), but it’s a huge hassle and can be very expensive when you’re trying to sell. (If you’re willing and able to take the loss of the price of the house, this rule can be relaxed– if houses are under 100K and you have much more than that in savings and a large income, you’ll probably be ok even if you only stick around a couple years and take a loss.)
#2. Don’t buy unless you have at least 20% down (and no other major consumer debt). Being able to save that 20% means you have discipline, that you are used to living on less than your earnings, that you are more likely to be able to handle a regular monthly payment that you cannot miss. It also means that you avoid expensive mortgage insurance and you aren’t doing risky double mortgages in order to avoid said insurance. Finally, it gives you more breathing room so if you do have to move and the housing market shrinks or you need to unload the house quickly, you’ll have that flexibility.
#3. There are a lot of other heuristics about how much of your income etc. to spend. That’s more about *what* to buy rather than *when* to buy, so I’ll leave a nice link to No Trust Fund on the topic here. But obviously if there are no housing units in your area in your price range but there are rentals, renting is what you should be doing rather than violating #1 and #2. (You will still want to think hard about putting down 20% on a million dollar house if you aren’t sure you’ll always be able to make the monthly payments. Maybe waiting until you have 40% will provide more peace of mind.)
Ok, so that’s when not to buy… how about when to buy? When is buying better than renting?
Luckily there’s a calculator for everything on the internet, and this calculator from the NYTimes is teh awesome. It will tell you which is a better deal in your circumstances, renting or buying. (Think of mortgage interest as equivalent to rent– if the mortgage interest is greater than rent for the same house, you’re losing money by owning and would be better off with that down payment in the stock market or other investments. Well, mortgage interest and property taxes and HOA/Condo fees and upkeep. Even with a paid off house there’s still annual expenses.)
However, there are also intangibles to home ownership. Some people want to paint their own walls. Some people hate having to deal with maintenance. And so on. These intangibles will tip people one way or the other even if the money doesn’t work out that direction. Note that if you decide to become a permanent renter, you need to increase your retirement savings to make up for future housing costs and the lack of forced savings that is the mortgage principal.
Note that the when *not* to buy is there to guard you against really heavy negative shocks. It’s about how to guard yourself from what can be a pretty bad risk. The when *to* buy is less about risk and more about getting a better deal. So if the intangibles are important to you, then you can put a price on them and even if the rent vs. buy calculator comes out against you, so long as you can safely handle the payments etc. you can still buy and be better off. But you should still follow the when not to buy heuristics in order to stay safe– if the intangibles are important, then you need to save more money.
So readers, when did you know it was time to buy or to keep renting? How do you make these decisions?