Greetings for the Day!
We are happy to present a small article on the importance and benefits of taking certain key decisions of personal finance in a judicious manner. One such decision is – whether to buy a house or simply rent it!
What do you think is the answer? Is it a Yes – Renting is better or No, Buying is better! Well to put simply the answer is not a simple Yes or No but the answer depends on the several factors and requires a through financial analysis before coming to the right conclusion.
So, before we understand what is the right answer let us see the case of one client and the actual impact of the decision the client took.
Mr. Parth, an engineer by profession working with an MNC wanted to buy a house in 2012 at his age of 26 and instead he chose to rent a 2 bhk in Thane near Mumbai. He had an option to buy a house for one crore where he was to pay 20 lacs as downpayment and remaining 80 lacs by loan. The Emi on this loan was 67500 for a 20-year tenure. The rent in 2012 was 20k and now in 2023 is 36k p.m. Instead of buying he chose to rent the house and he also chose to invest the money saved in down payment as well as EMI in investment products to build wealth. Let us see the following scenario where we compare both options of rent and buying the apartment and see the difference is his current net worth.
Impact on Net worth – Scenario – Rent Vs Buy
|Particulars||Scenario A – Renting the House||Scenario B – Buying the House|
|Current Value in 2023 of down payment made in 2012||76 lacs *||N.A.|
|Value of House in 2023||N.A.||1.4 crore|
|Total Outstanding Loan||51.7 lacs|
|Value of SIPs done today from the amount saved in EMI over rent (Average of 35k p.m. over last 10 years)||1.2 crores *|
|**Net worth as on date||1.96 cr||88.3 lacs|
|Positive Impact on net worth over 11 years by making decision of renting instead of buying|
*The down payment as well as the SIPs have earned a CAGR of 12.5% over last 11 years.
**Net worth only related to the housing decision has been considered. His other assets and income are not relevant here.
In the above case we have seen that the positive impact of renting the house vis-a vis buying the same was more than a crore on the client in the last 11 years. The total value of investments which Mr. Parth holds is 1.96 crore and had he purchased the house then the total value of his holding in the form of assets would have been Rs. 88 lacs. Not only this the 1.96 cr. of assets are income yielding assets and supplement the family income of Mr. Parth whereas had he taken the house, it would not have been an income yielding asset but an asset on which he must compulsorily spend.
Thus, the decision to rent the house has been of tremendous benefit to Mr. Parth. Key reason for this is that the house has appreciated by only 40% over last 11 years. Which is less than 3% per annum. Thus, if the house had appreciated at 12-14% per annum or even at say 10% per annum then buying a house would have been a good decision.
Thus, while buying a house the most important parameter to decide whether to buy or to rent is to compare the rate of appreciation the value of the house will have Vis-a Vis the rate of interest which you pay on the Housing loan or the rate of interest your own funds can earn in the market. If rate of appreciation is more then go for buying the house. People who purchased houses in 1998 to 2007 in India have created substantial wealth as the real estate cycle was favorable to enter for an investor/buyer. However, post 2007 the same sector has yielded poor results for the investor/buyer.
Apart from above the following factors must be considered before taking a decision to buy or rent a house.
Income Stability: Buying a house requires a substantial amount of money upfront for the down payment, closing costs, and other associated expenses. If you don’t have sufficient savings and need to take out a mortgage, make sure you can afford the monthly payments without straining your finances. As a thumb rule the outgoing towards EMI and downpayment should not be more than 30-35% of your total income and savings respectively
Long-term Plans: If you plan to stay in the same location for a long time, buying a house may be a better option as it offers stability, security, and the potential for appreciation. However, if you are uncertain about your future or if your job requires you to relocate frequently, renting may be a more flexible option.
Psychological Benefits of Owning a house: There are certain positive psychological benefits of owning a house like sense of achievement, a feeling of stability and it can be beneficial if there are chances of appreciation in the asset beyond the rate of cost of funds or atleast the rate of inflation
Rent ratio It is the ratio of the price of the property to its yearly rent. If the property’s worth is 20 to 25x the annual rent, it is advisable to buy it. Suppose you pay a monthly rent of ₹25,000 for a house, it amounts to ₹3 lakhs per year. If you live in that house for 20 years, it will cost you ₹60-75 lakhs in total. If the property’s price is less than ₹75 lakhs, the rent ratio is favorable for purchasing the property instead of renting. But, if the price of the house is over ₹75 lakhs, renting it makes more sense. In some metro cities the price of property is more than 50 times its annual rent, thus renting the same instead of buying is a much better decision.
Maintenance and Repairs: As a homeowner, you will be responsible for maintaining and repairing the house, which can be time-consuming and expensive. On the other hand, as a tenant, the landlord is usually responsible for these costs.
Real Estate Market: Real estate markets in India can be volatile and unpredictable. Before deciding, research the local market trends, demand, and supply.
Tax Implications: Homeowners can avail of tax benefits such as deduction of home loan interest and principal payments under Section 24 and Section 80C of the Income Tax Act, respectively. Renters, on the other hand, get tax benefits in the form of House Rent Allowance subject to certain conditions. Thus, one needs to calculate
Thus, whenever you choose to buy a house, it is of pertinent importance to taken a holistic decision. We help clients to take the right decision through holistic financial planning for such material and important financial decisions in life.
We hope the information so presented was useful.
To know more on the topic as well as to start investments please feel free to contact:
Team Richvik – 022- 25674106
Contact us: firstname.lastname@example.org