Nonsense from Trulia: Buying 42% Cheaper than Renting

Longtime P-I real estate reporter Aubrey Cohen certainly knows how to get my attention. Here’s a story he ran on their site yesterday: Report finds buying a home way cheaper than renting

Buying a home is way cheaper than renting in all 100 of the nation’s largest metropolitan areas, including Seattle, according to a new report.

The average homeownership cost in the Seattle area is $978 a month, 42 percent lower than average rent, the real estate company Trulia reported. Nationwide, owning is 45 percent cheaper than renting.

It’s also worth noting that Trulia’s calculation factors in a range of expenses, including closing costs, maintenance, insurance, property taxes on the purchase side and security deposit and renters insurance on the rental side. It also assumes owners will keep a house for seven years and itemize their taxes, so they can take the mortgage interest deduction.

The claims being made here by Trulia do not pass the sniff test. Average Seattle monthly ownership cost of just $978? No stinking way.

Here’s Trulia’s page about the report. They go into a little more detail about how they arrived at these conclusions:

To calculate whether renting or buying costs less, we assume people can get a low mortgage rate of 3.5%, itemize their federal tax deductions and are in the 25% tax bracket, and will stay in their home for seven years.

…we estimated the total costs of renting and buying for the typical property in a metro over a seven-year period. We factored in all the costs of homeownership (e.g., closing costs, maintenance, insurance, taxes, etc.), along with the tax benefit of deducting mortgage interest and property taxes, as well as the proceeds from selling the home after seven years with modest home price appreciation. …Finally, we calculate the net-present-value of all those costs to capture the opportunity cost of tying your money up in a down payment.

I just so happen to have a convenient spreadsheet I designed to tackle nearly this exact same problem. I last posted data generated by this spreadsheet in July. Here’s a link to the spreadsheet so you can download it yourself. Let’s plug in some numbers.

The median price of a single-family home across King, Snohomish, and Pierce Counties was about $300,000 in August. Let’s use that as our baseline. With a purchase price of $300,000, a 20% down payment of $60,000, and an interest rate of 3.5%, your principal plus interest payment each month comes out to $1,078.

Add another $600 a year ($50/mo) for homeowner’s insurance and $3,450 a year ($288/mo) for property taxes, and your total PITI is up to $1,416. A standard estimate for home maintenance is 1% of the home’s purchase price annually, so add another $250 a month to bring us to $1,666.

Over the course of the first seven years the owner would pay $79,048 in interest and taxes, or $11,293 a year. In reality the “tax benefit of deducting mortgage interest and property taxes” is offset by the fact that even a non-itemizing couple would get the standard deduction of $12,750, so the “benefit” for owners is negligible in this case, but just to give Trulia a handicap, let’s incorrectly calculate the “benefit” as 25% of $11,293, or $2,823 a year. That shaves $235 a month off the monthly cost of ownership, bringing us back down to $1,431 a month.

Finally, they mentioned that they included opportunity cost in their calculations, so let’s assume that you’re able to find an investment for your $60,000 down payment that would return an average of 5% over the seven year timeframe. That’s a difference of 1.5% from the interest rate on the mortgage. Seven years of annually compounding interest gives you a gain of $6,591, or about $78 a month, bringing our total ownership cost to $1,509 a month.

$1,509 is quite clearly a lot higher than the $978 a month claim being made by Trulia. So what gives? The answer is above:

We factored in …the proceeds from selling the home after seven years with modest home price appreciation.

Ah-hah. So when Trulia says they’re comparing the monthly cost of renting vs. buying, that’s not really all they’re comparing. They’re making some major, unspecified assumptions about home appreciation in these calculations. Let’s work backward to try to figure out Trulia’s assumed appreciation rate.

In order to get $1,509 a month down to $978 a month, we need to profit a total of $44,604 on the home after seven years ($531 × 12 × 7). To obtain that much in-pocket profit, we would need to sell our $300,000 home for $373,676 in year seven. After we pay two real estate agents 3% each and the state government takes their 1.78% share in excise tax, that leaves us with the necessary $344,604.

An increase in home value from $300,000 at purchase to $373,676 seven years later comes out to a total increase of 24.6%, or 3.2% per year. Is it safe to assume that your home will appreciate 3.2% a year, every year for the next seven years? Maybe, maybe not.

Even worse, if you eliminate the bogus interest deduction “advantage” detailed above you would need to sell the home for $395,167, which comes out to 4.0% required annual appreciation. That’s a pretty unrealistically optimistic assumption, in my opinion.

The bottom line here, in my opinion, is that if you’re going to make claims like this:

Buying is cheaper than renting by several hundred dollars a month in every large metro.

You should be a lot more transparent about the major underlying assumptions regarding home appreciation. The word “appreciation” appears only once in Trulia’s entire post, with no specifics about how much they are assuming, and yet without the assumption of 3-4% annual appreciation the monthly cost of buying in the Seattle area is 54 to 78 percent higher than they claim it to be.

For the record, if you just look at actual monthly costs (i.e. drop the assumption of profit through appreciation), you would need to find a home that costs only $140,000 in order to keep your monthly costs down to $978.

This “report” seems disingenuous to me.

  

About The Tim

Tim Ellis is the founder of Seattle Bubble. His background in engineering and computer / internet technology, a fondness of data-based analysis of problems, and an addiction to spreadsheets all influence his perspective on the Seattle-area real estate market.

40 comments:

  1. 1
    wreckingbull says:

    The comments on the blog piece are just as bad as the piece itself. Happy times are here again.

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  2. 2
    steve johnsons says:

    There are counter-points to consider, like the condo situation in Seattle, sale prices are crazy low, so you could do a 30 year fixed mortgage for a condo that sells in the low six figures, pay around $400-$500 a month, throw in $100 and change a month taxes, say $300 HOA monthly, adds up to around $900 a month or so. Meanwhile in the same building in downtown seattle the rent for a 1 bd apt goes for $1200 to $1400 a month.

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  3. 3
    DirkKS says:

    Two things.

    One, Trulia may be being optimistic about house price appreciation, but I think you’re being optimistic about opportunity cost. What investment are you proposing in today’s economy to earn a safe 5.0% a year? You can’t get that in a bond, so you’re going to have to buy stocks, and that’s far from a guarantee.

    Two, you’re ignoring principal payments. After seven years, our buyer will have paid off $45K of their mortgage. Now, if you truly believe they could have earned 5% on that money instead, then that doesn’t help the analysis, but if you use a more realistic rate of return (30-year Treasuries are at 3% right now; 5-year CD’s are at about 2%), it does.

    If I change your spreadsheet to an investment return of 3.0% and leave house appreciation at 2.5%, buying comes out ahead (even with the standard deduction accounted for) by year 7, barely.

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  4. 4
    Dan O. says:

    Seattle’s June 2012 price-to-rent ratio of 22.98 and rent-to-mortgage payment ratio of 0.79, certainly don’t support Trulia’s numbers either.

    Source: http://www.deptofnumbers.com/affordability/washington/seattle/

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  5. 5
    David S says:

    Math is hard.

    It is presumptuous of The Tim to imply people can do math, especially the financial calculations of any kind.

    Rate this comment: Thumb up 0

  6. 6
    redmondjp says:

    With QE3.0 just released, now with Unlimited Dollars, it may make perfect sense to lock in the low rate and pay it off with rapidly-inflating dollars . . .

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  7. 7
    gerg says:

    I’ve got to forward the article being analyzed out to my tenant…

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  8. 8
    FenceSitter says:

    Ha! Did you guys notice that Aubrey updated his article with a link to this post? I did not read the article before the update, so I couldn’t say whether any other content changed.

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  9. 9
    Scotsman says:

    RE: redmondjp @ 6

    And if that plan doesn’t work out you can always stop making payments and live for free. Hard to do if you rent.

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  10. 10
    Jonness says:

    Tim:

    The average renter doesn’t have 3 months of house payments in the bank, let alone 20% down. I think you should rerun your comparison using a more realistic 3.5% to 5% down and include FHA fees or PMI.

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  11. 11
    NESeattleSeller says:

    While I appreciate The Tim’s analysis and find his math to be a good reflection of the situation he assumes, I think if you compare the quality and size of house one could rent with the purchase price it brings (not the median for the county or tri-county area) you may find things a bit different. For example, a decent 2 bdrm house in the north end may rent for $1400, but may be purchased (if you can find one for sale) for around $255K, with a PI (assuming 20% down and good credit) of well under $1000/month. Taxes around $2400 a year so that is only $200 a month. Insurance is available for around $65 a month. So we are to $1265 before we do any maintenance. So with the monthlies close it all comes down to whether or not there is some other investment that will appreciate faster and not tie up your down payment. I happen to think that the Seattle area will continue to grow, though slowly, and that within 5-7 years we will be at something like historical 4% annual appreciation.

    Aside: I have nothing for sale at this time. But one of my rental’s tenants just signed a lease for 1 year stating that they plan to purchase 1 year from now. They look at what they can rent and think they can finish saving for a down payment and buy something nicer.

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  12. 12
    sniffy says:

    How relevant is it to compare average rents vs. average costs of homeownership? Unless you compare the rental vs. ownership price of the exact same property, it seems like apples and oranges.

    For one thing, average rental properties are smaller and have fewer bedrooms. Detached single family residences are a small portion of total rentals, I’d think, so are we comparing average 1 or 2 bedroom, 1000 sq.ft. apartments to average 3 bedroom, 1800 sq.ft. homes? Wouldn’t rentals on average be closer to the city center? It’s just too many factors to make a valid comparison, and accurate rental vs. ownership price comparisons *for the same property* (at the same time) probably aren’t plentiful enough to make a solid analysis.

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  13. 13
    David S says:

    Here we are with the rent versus own discussion again.

    I suggest I renters want to learn how much it costs to own that they go out and do that. This is the way they will learn, by doing it.

    We’ve done it twice in 15 years and it’s not low cost. We are not leasing now based on cost.

    Get back to me after this magic seven years and let me know what you then think. It’s not a bad way to go, owning/mortgaging.

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  14. 14
    The Tim says:

    By Jonness @ 10:

    The average renter doesn’t have 3 months of house payments in the bank, let alone 20% down. I think you should rerun your comparison using a more realistic 3.5% to 5% down and include FHA fees or PMI.

    I’m well aware of that, but I was trying to replicate Trulia’s calculations as closely as possible, and they used 20% down for their analysis.

    By sniffy @ 12:

    How relevant is it to compare average rents vs. average costs of homeownership? Unless you compare the rental vs. ownership price of the exact same property, it seems like apples and oranges.

    That’s one problem that this analysis from Trulia actually doesn’t have. Here’s the relevant portion from the page I linked to (emphasis theirs):

    On for-sale homes, we took the asking price and estimated what it would rent for; for rentals, we took the asking rent and estimated what it would sell for. That way, we can calculate the average rent and asking price for an identical set of properties in a metro area, for a direct apples-to-apples comparison. By looking at homes currently for sale or rent, we’re able to illustrate the actual housing options that consumers face right now.

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  15. 15
    David Losh says:

    The problem with rent versus owning is that you own the property, and anything, and everything that goes along with that.

    So you buy a place today that looks great, and in seven years it looks tired, worn, and out of date. Well, you own that. If you go to sell, the Real Estate agent tells you you need to put in $6K to fix it up, plus the costs of selling, plus you already paid the price to buy and mortgage.

    In the past, when property always went up in price it may have been worth it to “own,” I use the term lightly because you are paying the bank interest.

    I would like to see a comparison where the renter signs a seven year lease, fixes up the rental they way they want, then walk away. I’m thinking it would all be about the same, without the debt burden.

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  16. 16
    sniffy says:

    RE: The Tim @ 14 – I still question the accuracy of their estimates. Without knowing what the house actually rented *and* sold for in a reasonably narrow timeframe, it’s too much speculation.

    To compound the problem, they’re looking at the *asking* price rather than an actual sale price, so it’s their speculation based on the owners’ speculation–no actual factual numbers involved!

    I know in my neighborhood at least (Mt. Baker), there’s a whole lot of ridiculously high asking prices. People aren’t buying those houses. So is Trulia estimating rent based on the jacked up price, or are they somehow estimating a ‘fair’ price? Either way makes the resulting analysis pretty shaky.

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  17. 17
    Jen says:

    RE: David Losh @ 15 – I agree with you!

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  18. 18

    By sniffy @ 12:

    How relevant is it to compare average rents vs. average costs of homeownership? Unless you compare the rental vs. ownership price of the exact same property, it seems like apples and oranges.

    For one thing, average rental properties are smaller and have fewer bedrooms.

    I’m not sure the differences you mention are accurate, but there certainly could be differences. To skew the results someone could be comparing the purchase price of a house in poor condition (or a remodel from hell) with that of a rental in great condition.

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  19. 19

    By David Losh @ 15:

    So you buy a place today that looks great, and in seven years it looks tired, worn, and out of date..

    Apparently my house is going to fall apart in the next two years!

    Seriously, we’ve had clients who owned a house for over ten years who took good care of it to the point where it didn’t even need paint or re-carpet. One I’m thinking of managed to do that with two kids living there part of that time.

    Some people, on the other hand, can practically destroy a property in a matter of months. It’s part of the reason I don’t like new construction because you don’t know which type of people will predominately describe your new neighbors.

    BTW, for the record I’m somewhere in-between the two types. At a minimum I would need to paint after 10 years.

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  20. 20
    corndogs says:

    RE: David Losh @ 15 – Losh’s idea of home maintenance is clearing the sacks of garbage out his lean-to every 6 months and making a dump run……. at 1% maintenance that’s 35K over 7 years for a 500K house. In Seattle, since you’re paying that much for a hamster cage on a 4K sq ft lot and you’re on sewer, I’d say maintenance would be 1/2 that at most….. but if you defer the maintenance like Losh.. You should expect to take a big hit in the end… that’s where the flippers come in and do what you were incapable of doing and then turn a profit… If you can’t afford to maintain a home or don’t know how — don’t buy one… you’re a renter…

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  21. 21
    JW says:

    I see the PI has now updated their column about TIm Ellis taking issue with dishonesty. I know they said they did but did they factor in the cost of selling a home at 7-10%. Does Does Trulia kool-aid taste that good? Upfront closing costs are what 2-6%?

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  22. 22
    David Losh says:

    RE: corndogs @ 20

    To sell a house in today’s market it has to look the part, and compete with like properties. It needs to be clean, in good repair, and ready for the next owner. $35K maybe right, but in addition, to sell well it costs money also. Actually I do a lot of those.

    I know what it cost to buy, and sell, and today’s market isn’t bearing out the cost.

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  23. 23
    2kt says:

    RE: David Losh @ 22

    Dave, property always need to look to sell and be in decent shape comparing to others. So, thank you for another nugget of Losh-isdom, but it is not a reason to avoid buying/owning real estate.

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  24. 24
    Feedback says:

    Thank you, Tim. Your mathematics skills are excellent.

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  25. 25
    Chris Green says:

    Your model of the impact of the opportunity cost of locking up your downpayment in housing equity doesn’t ring at all true for me. If it’s such a negative, doesn’t that imply that anyone with existing equity in their house should turn it back to investment capital if they can get favorable home-equity loan terms? I own my house free and clear – doesn’t that mean I should be looking for a bank willing to mortgage it back to me?

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  26. 26

    By 2kt @ 23:

    RE: David Losh @ 22 – Dave, property always need to look to sell and be in decent shape comparing to others. So, thank you for another nugget of Losh-isdom, but it is not a reason to avoid buying/owning real estate.

    Actually, he’s not even right on that (even ignoring the fact that he didn’t address the point of the comment he was responding to). Not every buyer is alike. Some buyers are actually looking for major fixers. Fixing it up to “make it look the part” will drive those buyers away.

    Stated differently, many buyers are looking for exactly what Corndogs described–a house owned by someone who should have been a renter (or maybe a downsizer) because they were either incapable or unwilling to maintain the property.

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  27. 27
    Jonness says:

    RE: The Tim @ 14 – Sorry Tim, I’m not trying to get down on you. I’m just saying Trulia’s entire premise is nothing more than magic manipulated numbers.

    The average homeownership cost in the Seattle area is $978 a month, 42 percent lower than average rent, the real estate company Trulia reported. Nationwide, owning is 45 percent cheaper than renting.

    The average American family has $3800 in savings and $2200 in credit card debt. What kind of house can I buy in Seattle with a $1600 down payment, no money for closing costs, and no emergency fund?

    To calculate whether renting or buying costs less, we assume people can get a low mortgage rate of 3.5%

    So they are assuming 20% down, no PMI, and a FICO score of 750 in order to qualify for the cheapest loans? Or are they failing to factor in the points or FHA fees a 3.5% rate would cost the “average” family?

    We factored in …the proceeds from selling the home after seven years with modest home price appreciation.

    In truth, home prices in the Seattle area have decreased over the last 7 year period. China is slowing, Europe is imploding, and the U.S. economy is so wrecked that Bernanke is fabricating $40 billion per month out of thin air and dumping it into the U.S. housing market. After pumping $trillions of magic dollars so far into the U.S. economy, the unemployment rate is still above 8%, and GDP growth is less than 2%.

    The Federal government borrows more money per year, and dumps it into the economy, than the entire U.S. individual income taxes and corporate taxes combined. Thus, the interest payment on our debt continues to escalate with reckless abandon. This is completely unsustainable over the mid to long term. Japan got caught in a similar liquidity trap, and its economy went sideways for over 20 years.

    Trulia’s entire study is made up of magic numbers manipulated to make buying a home appear to be appealing from a financial standpoint. In truth, buying a house is risky for all but the most financially prepared buyers.

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  28. 28

    By Jonness @ 27:

    In truth, home prices in the Seattle area have decreased over the last 7 year period. China is slowing, Europe is imploding, and the U.S. economy is so wrecked that Bernanke is fabricating $40 billion per month out of thin air and dumping it into the U.S. housing market.. . .

    The Federal government borrows more money per year, and dumps it into the economy, than the entire U.S. individual income taxes and corporate taxes combined. .

    All excellent points. But some people in this country do not realize that things are not going well. The money spent has bought complacency.

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  29. 29
    Brad says:

    Tim, for a actual north seattle Mapleleaf property evaluation, I rent for $2000/mo, 302 NE 90th st. 2 bed, 1 bath up, 3/4 bath down. Average condition, finished basement, garage, carpet in basement, hardwood up stairs, original kitchen, 10-12 yr old appliances, Formica counters. Remainder of info on Redfin and zillow. The $2000/mo is fair or even good rate for area.

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  30. 30
    Pegasus says:

    RE: Brad @ 29 – No one ever said all renters are smart……

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  31. 31
    Brad says:

    Wow tough crowd, I’ll make sure this is the last post I post on the SB.

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  32. 32
    Pegasus says:

    RE: Brad @ 31 – Great! We have enough idiots posting here!

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  33. 33
    Jonness says:

    By Brad @ 31:

    Wow tough crowd, I’ll make sure this is the last post I post on the SB.

    Brad: Thanks for the comparator. According to Zillow, it looks like your rent is fairly inline with the area you are in. But I must say, $2000/mo for that house makes me feel really, really poor. It seems like a lot to pay for a 900 sq ft home on a 0.11 acre lot.

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  34. 34
    kfhoz says:

    RE: Brad @ 31 – Please post again sometime! No reason to be discouraged by Pegasus’ ungenerous remark. I have also been looking for a rental and finding that rents are quite high. Right now I own, but need a bigger place.

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  35. 35
    Tim McB says:

    RE: Brad @ 31

    Brad that’s my ‘hood; we live only a few blocks away from you. Don’t be turned off by Pegasus. He tends to be a bit grumpy about things in general. There’s plenty of good commentors here as well. We love Maple Leaf and are happy about our neighborhood location. Not everything is about lot size and square footage to price ratio. Location plays a role as well. I’ve noticed a big uptick in families moving into the area due to its central location for work and its generally well regarded schools.

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  36. 36
    David Losh says:

    RE: 2kt @ 23

    No, the reason to avoid buying a property is the lack of appreciation on a thirty year debt.

    If the property declines, or stays at, or below, the rate of inflation you lose your hedge, as well as the costs to buy, and sell.

    Everything I read, except from Real Estate sales people, shows that property, housing in particular, will continue to decline.

    I have no illusions that I am only renting my house from the bank, and when I’m done I’ll collect what I can, and move on.

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  37. 37
    David Losh says:

    RE: Brad @ 29

    What is the rate per square foot?

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  38. 38

    […] of the previous methodology and feedback provided by Leonard Baron, MBA, CPA; LPB Services LLC and Tim Ellis, Founder of Seattle Bubble. These updates enable a more realistic comparison of the net costs of […]

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  39. 39
    Tal says:

    That’s a great topic and making the right calculations can save from making financial mistakes. When I bought my home I built an excel worksheet, download for free here http://www.otprj.com/buy_vs_rent.php

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  40. 40

    […] never been much of a fan of either company, since they aren’t really “disrupting” or improving the real estate […]

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