Examining Your Finances

The first step in the decision-making process is to determine whether or not you can afford to purchase a home.  Issues to consider include your ability to make a down payment (for which there may be down-payment assistance options or retirement savings available to use for this -- ask your lender) and pay closing costs (which may be used from various sources -- ask your lender).  In any event, these costs likely are greater than the initial payment and security deposit that would be required if you were renting instead of buying.  You will also want to find out how much of a home you can afford, and whether that debt-to-income ratio will be more beneficial than renting. 

If you've done the math and can afford to make the initial purchase as well as service of a new home purchase, the next factor you have to decide is whether this purchase benefits you financially.  In the cost-benefit factor, you will want to check with lenders about mortgage calculations to ensure the purchase or rental of a home is beneficial to your pockets.  Of course, even if the monthly cost of renting is less than the cost of buying, there are long-term financial considerations that must be taken into account.

Long-Term Cost/Benefit Analysis
Proponents of buying often cite the ability to build equity, the tax breaks, and the investment value of a home as solid reasons to buy instead of rent.  While these arguments have merit, there are downsides to all of them.  Below, there are some positive and negative long-term realities of the equity, tax breaks, and investment value associated with buying a home.

Pros/Cons

Equity Some of the money that you give to pay a mortgage goes directly toward building equity in your home.  You will never again see any of the rent money that you pay.  Home equity can serve as collateral for a loan, enabling you to convert the equity into cash.  Equity takes time to build, and payments made during the first few years of a mortgage go primarily toward interest on the loan.  Should you move after living in a home for only a few years, you may have little or no equity in the property.  And, after the costs of selling the home, you could end up losing money.

Tax Breaks Unlike money spent on rent, the mortgage interest and property taxes you pay are both deductible on your federal income-tax return.  If you sell your primary residence at a profit, much of your gain is likely to be exempt from federal taxes.  If you take out a home-equity loan, some or all of the interest on the loan may be deductible on your federal income tax return.  First, the tax breaks on interest and property taxes apply only when the amount of your itemized deductions is greater than the standard deduction amount.  So, you and your spouse have a standard deduction (check with your tax professional) and an itemized deductions (again, see the tax professional).  You may be better off taking the standard deduction because it may be greater than the itemized amount.  But, then you therefore receive no tax break on the mortgage interest you paid.  Even when itemization provides a greater tax break than the standard deduction, you are allowed to deduct only a portion of your interest payments.  Thus, the benefit of the tax break may not exceed the benefit of paying for the home in cash (if possible) and foregoing the tax break.  Every dollar spent in interest adds to the amount above the purchase price of your home that you will need to make just to break even when you sell it.  Owning a home means having to pay real-estate taxes every year.  So even after your mortgage is paid off, you'll still have to keep making payments to someone to keep your home.

Investment Real estate in the form of your primary residence is likely the single largest asset in your portfolio.  Over the long term, price appreciation can be significant.  Many homeowners downsize their primary residence when they retire; they sell at profit, purchase a less expensive home and use the profits to supplement their income.  While history shows it is likely that your home will appreciate over time, there are no guarantees.  There are always areas of the country where homes have lost value, and owners are unable to sell them at a price equal to or greater than the purchase price.

Do the Calculations
A variety of online calculators are available to help you evaluate the financial aspects of the rent versus buy decision, but keep in mind that you need to estimate a range of variables that includes the number of years you will stay in the home.  In order to estimate the investment profit the home will provide for you, you must assume the yearly rate of appreciation on the home's value.  The results provided by a calculator and the investment evaluations you make are only as good as the assumptions used to calculate them, and don't forget to consider the cost of ongoing maintenance.