What You’ll Learn
How homeownership can improve your finances and quality of life
All the costs you’ll need to prepare for
Thought starters to help you decide to buy or not to buy
Homeownership is a big financial decision, but learning the pros and cons means you’ll go into it with your eyes open. We’ll start with the good stuff, balance it out with realities you should be aware of, and end with some numbers to get you thinking. A home is a large purchase, but it’s also an investment, so weighing the facts in the cold light of day will help you feel confident about the right choice for you.
Pros of buying a house
Appreciation and home equity
You’ll often hear that buying a home is a good long-term investment for two key reasons: appreciation and home equity. The former is pretty easy to explain: residential real estate values tend to increase over time, so when you eventually sell your home, the hope is that it’ll go for more than you paid for it and you’ll make a tidy profit. .
Home equity, on the other hand, is the current market value of your home, minus the amount you owe on your mortgage. In other words, it’s the portion of your home that you’ve fully paid off and is truly yours. When the value of your home goes up, so does your home equity. You can also increase your home equity in a couple of ways. The first is your monthly mortgage payments: the more you pay off the principal, the more equity you own in your home. The principal is the dollar amount you borrowed. By applying extra payments to the principal, you can make your equity grow even faster. The second way to increase your home equity is by making home improvements. Not all renovations boost your property value, but the ones that do will give your equity a boost, too.
Like all investments, real estate values are cyclical—they’re impacted by the economy, market demand, and other factors, but over the last 10 years the housing shortage has been driving a surge in home prices. Keep in mind, America is a big place and there are cities where it’s cheaper to rent than buy. But compared to paying rent, each mortgage payment you make is an investment in an asset that you own. Once the loan is paid off, you’ll have something to show for it.
Predictable payments and recognition for them
One of the great benefits of buying a home with a fixed-rate mortgage is that you’ll know exactly what your mortgage payments for the principal and interest will be each month. Rent, on the other hand, can increase every time the lease is renewed. As you become more established in your career and your salary goes up, your regular mortgage payments become more affordable. When you’re renting, landlords may decide to increase the rent to match market rates (among other reasons), which can eat into your raise pretty fast.
An interesting bonus to having a well managed mortgage is that it can help build your credit score. (Which can seem odd given mortgage companies check your credit score before approving the mortgage.) You see, few landlords report rent payments to credit reporting agencies (CRA), so even though you have a history of paying rent on time, it’s not reflected in your credit score. Mortgage payments are not only recognized by CRAs, they’re given more weight over revolving accounts (like credit cards). If you don’t have a long credit history, it is nice to know that by making your regular mortgage payments, in the CRA’s eyes you’ll have something to show for it.
Stability and pride of place
You may not have considered this, but owning a home also comes with social benefits. There’s just something about living in a space that truly reflects you, that makes you happy. You can finally paint the walls the color you want, extend the closet, open up the kitchen, plant a tree in the garden, all things that most landlords would baulk at. Being able to tailor a home to your lifestyle, improves your quality of life while also having the potential to increase your home’s resale value.
When you own the home you live in, there’s a sense of stability that comes with knowing that you’re the one who’ll decide when it’s time to go. This commitment to your home also extends to the community you become a part of. The National Association of Realtors 2016 report on the social benefits of homeownership and stable housing found that “homeownership boosts the educational performance of children, induces higher participation in civic and volunteering activity, improves health care outcomes, lowers crime rates and lessens welfare dependency.” Simply put, buying a home gives you pride of ownership, a sense of achievement, and a sense of belonging in the community where you’ve made your investment. And that’s something to smile about.
Cons of buying a house
High upfront costs
There’s no denying that the upfront costs of buying a home are typically more expensive than moving into a rental. If you’re like most first-time buyers, you’ll need to be approved for a mortgage and have money saved for the down payment and closing costs. Luckily, you no longer need to have a 20% down payment to qualify for a mortgage. In fact, if your credit score is above 580 it’s possible to buy a home with a government-backed loan and put as little as 3.5% down. However, buying a home with a low down payment means you’ll likely be on the hook for private mortgage insurance (PMI)—a monthly charge that helps offset the risk of you defaulting on your loan. Once you’ve paid enough of the mortgage to reach 22% equity in your home, your PMI payments will stop automatically (provided you’re current on your payments).
Closing costs are typically 2–5% of your loan amount. In many cases, when you close on a home you’ll have to pay a portion of your property taxes and insurance premiums in advance. Once your mortgage is fully paid off, you’ll need to continue paying property taxes and homeowners insurance for as long as you own the home. Although buying means you can live rent free, tax and insurance bills are unavoidable.
Building equity takes time
All investments come with risk, and owning a home is no exception. Property values can fall, and home equity doesn’t grow immediately. In an ideal situation, you can time when you plan to sell. If you need to sell for financial reasons, a job, or a personal situation, you may find yourself at the mercy of the market. Home prices can stagnate or drop due to regional or local economic conditions. And if you need to sell your home in a buyers market, you may have to accept an offer that’s less than you’d like.
In the early years of your mortgage, your high loan balance makes it difficult to build equity through mortgage payments. Due to a process known as amortization, most of your mortgage payment goes toward interest, not the principal. Toward the end of your loan term, most of your mortgage payment goes toward the principal. This means that it takes a lot longer to increase your home equity through mortgage payments when you’ve only had the loan a short time. Even if property values are rising steadily, it takes an average of 4 years for the boost in home equity to cover the upfront cost of buying the home. And when you finally decide you do need access to all the equity you’ve accrued, it typically takes much longer to sell a home than it does to sell investments like stock.
Maintaining a home costs money
Unlike most other investments, owning a home comes with ongoing costs. This is the dark side to being free of your landlord: With homeownership comes responsibility. Having a large yard is great, but it could be less appealing if you’re the one who has to mow the lawn on Saturday mornings. If an appliance breaks down, it’s on you to fix it. If the entire A/C system fails, you’ll be the one sweating it out til you can afford to replace it. And despite keeping up with regular maintenance and repairs, the property’s physical structure typically depreciates over time. (Psst: Land typically appreciates, so it’s not all bad.)
Then there’s taxes and insurance to think about. With a fixed-rate mortgage, only the interest and principal payments are fixed. You can expect property taxes and insurance fees to rise over time. Property taxes can increase as the value of your home goes up and/or when your local government needs to raise funds to cover the costs of the amenities they provide. Homeowners insurance increases with inflation: When the costs to repair/replace your home go up, insurance providers increase insurance premiums. If you’ve bought into a community with a homeowner’s association, you can bet those ongoing fees will increase, too. That said, if you remember how much you paid for a soda when you were a kid, and compare that to how much you pay for one now, you’ll know that rising costs are a fact of life.
Is buying a house always a solid investment?
Americans say yes
In 2020, the homeownership rate in the US rose to 65.8%. This suggests that the majority of Americans do think buying a house is a solid investment. After adjusting for inflation, the median value of single-family homes increased from $30,000 in 1940 to $199,600 in 2000. This is less than what people could have made if they’d invested the same amount in the stock market in 1940, but how many people could afford to invest $30,000 back then and still pay rent on top of that?
If it’s a question of money, there are ways to reduce your upfront costs. If you’re mulling over the amount of your down payment, 73% of Americans bought homes with down payments less than 20% in 2020 and there plenty of reasons to do so. To offset your closing costs you could opt for a “no-cost mortgage.” This is where you accept a higher interest rate on your mortgage (and therefore higher monthly payments), so the lender gives you a credit to offset your closing costs. If interest rates drop in the future, you can refinance your mortgage.
In many cases, whether to rent or buy comes down to what you’re looking for in a home and how long you plan to live there. If you know you’ll only be there for a couple of years, renting may be the best option for you: It is a lot easier to break a lease than it is to sell a home. If you think you might rent it out in the future, learn about owning investment property and buy with that in mind. If you want to buy in an expensive area, you might want to start by finding how much you can afford.
A home is an investment and it’s wise to have a plan
If you’ve decided that buying a home is the right move for you, our definitive homebuying checklist covers all the steps involved. When you get down to the nitty gritty, be honest with your lender. Knowing your financial goals, your financial commitments, and what you see yourself doing with the home in the future, can help them work out the best plan for you. In as little as 3 minutes, Better Mortgage can show you how much you’re likely to be approved for and match you with a loan consultant to talk through your options.