There’s nothing like parenthood to make you suddenly feel like you need to lay down roots – and for a lot of folks, that means scrambling to purchase your first home.
To be sure, getting the keys to your own place brings a feeling of stability that most new parents crave. But is owning real estate the best financial decision for younger moms and dads? That’s a more complicated question.
If buying a home means putting your savings on the back burner – or you don’t plan to stay there for more than a few years – renting might just be the better bet. Here are some things younger parents should keep in mind when they’re considering an impending move.
The truth about home equity
There are plenty of intangible reasons to buy real estate, especially when you’re starting a family. There’s the sense of being more connected with your community, not to mention the gratification that comes from putting your own imprint on the home.
Certainly, there are financial considerations that make home ownership sound pretty appealing, too. Not least of them is the ability to build equity. By contrast, paying rent can feel like throwing money down a rabbit hole.
Under the right circumstances, the “ownership as investment” line of thinking makes sense. Historically, home prices have risen over time – minus the housing market implosion of a decade ago – and that can potentially bring some nice returns in the long run.
But it’s important to be realistic about how just how much equity if any a new parent will come away with — particularly when they’re buying a starter home that they’ll be in for less than a decade. According to the Housing Price Index, a metric compiled by the U.S. Federal Housing Finance Agency, home prices have risen by an average of 3.7 percent a year from 1980 to 2017. So to the extent that it’s an investment, it’s a fairly pedestrian one.
Certainly, there’s a danger when you’re using nationwide data to talk about real estate, where trends tend to be local. But the HPI serves as a reminder that real estate valuations, generally speaking, have barely outpaced inflation over the long haul (the Consumer Price Index saw an average increase of 3.1 percent over that same span.
And if you’re not in the home for an extended period, the various costs that go along with ownership – everything from the leaky roof you needed to replace to the Realtor commissions you pay as a seller – can make that equity disappear.
Keep in mind, too, that mortgage lenders tend to front-load the interest portion of your loan. In the first several years, you’re paying a lot more in finance charges than you are in principle. So you’re not building much equity that way, either.
Generally speaking, it’s hard to generate much of a return if you move within five years. If you put a lot of money into remodeling or repairs, it may take even longer to reach the break-even point.
Tax deductions waning
The other popular argument for ownership over renting is your ability to deduct mortgage interest and property taxes on your Form 1040. But even this benefit doesn’t carry as much weight these days, after the recent passing of the Tax Cuts and Jobs Act.
Starting in 2018, the law caps the deduction for state and local taxes – including income, sales and property taxes — at $10,000. That alone dramatically changes the home ownership equation, especially for parents in heavily-taxed states like New York, New Jersey, and California.
At the same time, it nearly doubled the standard deduction for single filers as well couples filing jointly. The upshot: a lot fewer Americans will be itemizing their tax return.
Even if itemizing continues to make sense, you have to balance the benefits of these real estate deductions with the extra expenses that home ownership brings, like homeowners association (HOA) fees, maintenance costs, insurance premiums and property taxes. It may or may not be a money-saver over renting, where your monthly expenses are rolled into a single payment.
The hidden costs of ownership
Here’s another point to consider: if buying is more expensive than signing a lease where you live, paying rent isn’t throwing money away in the least. As long as you stay disciplined, you can invest the difference in a tax-advantaged retirement account, where you can spend your money on assets that historically appreciate far more than housing.
When you’re buying a home, it’s easy to focus on your monthly mortgage payment when figuring out how much you can afford. Too often, the ancillary costs of owning property, like HOA fees and repairs, get forgotten. As a result, a lot of homeowners buy more house than they can afford and other priorities, like their retirement accounts, take the brunt.
That’s not to say that renting is particularly cheap right now, either. Just as nationwide housing prices have bounced back after the Great Recession, so too have rental costs outpaced inflation in recent years. And at least with a fixed-rate mortgage, you can lock in your monthly payment. That too, is a factor new parents should think about when figuring out where they’re going to live.
The bottom line: it never hurts to carefully compare rental and purchase costs, including those that might be less obvious, in your area. Once you have reliable data, tools like the Freddie Mac Rent vs. Buy Calculator can help you figure out which path makes the most sense from a financial standpoint.