FOOL'S EYE VIEW
The Rent Or Buy Dilemma

By Stuart Watson (TMFTiger)
April 2, 2002

Spring is here and that means the home buying season is about to kick into full swing. That's the usual line at this time of year anyway. Last year's season never seemed to stop though. Spurred on by monthly reports of increasing house prices and regular reports of struggling shares, the humble home is, once again, the subject of countless column inches and dinner party conversations.

The latest press release comes from Abbey National (LSE: ANL). It illustrates, over the course of 25 years, how much cheaper it is to buy a property than rent it. They reckon that renting a two-bedroom flat for 25 years would set you back £263,785, if inflation ran at 4%. If you bought the property they reckon you would be better off by over £120,000, not to mention the fact that you would own the property at the end of that period as well. Looking at all types of property, Abbey National reckons it is 30% cheaper to buy rather than rent. Of course, as a supplier of mortgages, they do have a vested interest in making this point!

The fact that buying is cheaper than renting shouldn't come as any surprise though. If being a landlord were not a profitable line of business, then people wouldn't do it. These profits arise as it costs them less to buy and maintain the property than the total rental income they can expect to receive. That's why, all else being equal, it makes sense to 'Be Your Own Landlord' rather than allowing someone else to make that profit.

Back-end benefits

It's not always that simple though. Most of the benefits of owning your own home are back-end loaded, so to speak. They come from owning a property asset that you expect to rise in price by more than inflation over the 25 years or so whilst you pay off the mortgage. In terms of physical outlay of hard cash however, you are likely to spend a lot more if you own your home, especially in the early years. Not only are you responsible for maintenance, you're likely to spend a lot more on its contents too. As with many things, the most cost-effective route is only available to those with the most money to start with.

That's one of the reasons why, according to the Council of Mortgage Lenders, the average age of the first-time buyer is now reputed to be 34. Although it has increased over the last few years it has always been quite high. Three decades ago it was 29. Considering that many more people go through higher education these days, it doesn't seem unreasonable to say that it takes most of us a good 10 years from starting our first full-time job to buying our first home. But, as suggested in this excellent post by jimsusan, perhaps that isn't all that unreasonable.

Buy now while stocks last!

There is still the danger of thinking you have to get on the property ladder at any cost though. Although the excesses of the late 1980s still seem several steps above where we are at the moment we always need to be careful of those claims that you have to buy now or miss out forever. This leads to the lethal combination of paying too much for a house, putting down too little in the way of a deposit and therefore getting laden with unsustainably high monthly mortgage payments.

The constant predictions of double-digit price increases for houses certainly don't help matters. They are best ignored. It's impossible to predict short-term movements in asset prices as there are too many variables involved, not least the actions and reactions of the population at large.

Over the long-term, property prices have increased more or less in line with average earnings. They have to, as it is those average earnings which pay for the mortgages used to buy these very same houses. If prices rose so far that no first time buyers were able to enter the market at all the whole process would grind to a standstill.

There remain many valid reasons for renting. It is cheaper in the short-term so, for those whose budgets are tight, it may be the only way to avoid going deeper into (non-mortgage) debt. It's more flexible. The transactional costs of moving home are significant, often totalling thousands of pounds. Whilst it may seem attractive to capitalise on short-term gains, these costs are best side-stepped by choosing a property you're happy with for the long-term.

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