Why Mortgage Payments Should Be Lower Than Rents

It's clearly Ryan Avent morning here at Market Movers, since I also find myself with a minor case of siwoti upon reading this:

We have folks trying to sell homes of necessity (and increasingly this will be due to job loss, rather than foolish borrowing) and finding that even prices corresponding to mortgage payments below prevailing rents are failing to draw interesting. This is not a desirable place to be, and it's worth government attention.

It is not the job of government to prop up house prices to the point at which mortgages cost more than prevailing rents. In fact, right now, it is entirely rational that a new mortgage should cost less than prevailing rents. Here's a few reasons why:

1. Mortgage rates are extremely low -- which means that when you come to sell the house, they'll probably be higher. Since resale value is an enormous part of the price you're willing to pay for the house, this is a very important consideration.
2. Cash is king, right now -- everybody wants liquidity. To get a mortgage, you need to make a downpayment, in cash. The opportunity cost of that downpayment has never been higher.
3. House prices rose for over a decade; they've been falling for a couple of years. It's entirely reasonable to expect them to continue to fall, whatever happens to rents, for many years yet.
4. A house, right now, is a liability, not an asset. It ties you down to one place, which makes it harder to get a good job if you become unemployed. It needs constant maintenance, it comes with obligations to pay property taxes and insurance, and, if you do end up renting it out, there's all the inevitable hassles with the renters. Without much if any expectation of house-price appreciation, why go there?

If government attention is to be paid to housing, I would love to see it concentrated on the affordable-housing front (which might conceivably include lower interest rates) rather than on the higher-house-prices front (which really do no good to anybody in the long term). Yes, falling house prices are very bad for credit markets, and we might need to intervene for that reason. But worrying about mortgages being lower than rents is silly.

Comments

[Roger Knights:]

Why can't the gov't. take over where Rex & Co. left off, by offering homeowners a premium (say 15% of the house's current valuation) in exchange for a share of future profits (say 50%) on the sale of the house? This would buffer the effects of the current crunch on the homeowner, allowing him to make his mortgage payments, while being a good long-term buy for the gov't.

As long as I'm in a utopian mood, here's another suggestion. Since the gov't. is throwing money at make-work projects and infrastructure improvements, it seems to me that there's a project that could get under way much faster, with less likelihood of fraud or ineffectiveness than the ones I've been reading about. Namely, the gov't should offer to pay for home-improvement projects for home-owners in exchange for a share of future profits on the sale of the house. This would stimulate lots of economic activity, would upgrade the country's housing stock, would make life pleasanter for home-owners and their neighbors (who'd live in an upgraded neighborhood), and would be a good investment for the gov't. in the long run. It would also be politically popular (assuming it would work). (There are certain desirable-but-fairly-r... home improvements that wouldn’t require skilled labor, such as improved home security, improved home insulation, and improved earthquake protection.)

Jan 09 04:24 PM

[Roger Knights:]

PS: In the above, when I wrote, "in exchange for a share of future profits (say 50%) on the sale of the house," the profits would be figured based on the current valuation of the house, not the owner's purchase price.

Also, the site's software inserted a typo for me. "r..." should be "rare".

Jan 09 04:41 PM

[scotty1560:]

Felix - good article..

I wouldn't worry about mortgages being cheaper that rent...
The taxes and insurance and maintenance have to be equated in home
ownership, and they are severe in South Florida.

500k home averages 10k in taxes, 5k insurance, 10k maintenance..
that's $2000+ monthly before you get to the mortgage.
That same home rents for $2500-$3000 month, so it's far cheaper to rent.
Local governments got greedy and insurance is a scam...will continue
to be a burden to re-inflating prices.

Jan 09 09:07 PM

[Dr.Jackpot:]

This author obviously owns no rentals or ever paid for and maintained one.

Jan 10 08:14 AM

[Dan Morin:]

A house is always a liability. It was an asset only during the housing bubble and this era is over and such bubble won't come back in many decades.

Jan 10 08:43 AM

[secmaven:]

A man's home is his castle. Economics plays only a part in the decision to be a home owner. Pride of ownership. Keeping up with ________ and other psychological reason trump the numbers. Watch the Home and Garden channel for an insight into homeowner/buyer psychology. These folks did not major in calculus.

Jan 10 10:37 AM

[Still Renting:]

Well, I sold and started renting a few years ago. I pay less than half what I would have paid if I had bought my home two years ago for it's assessed value of ~$525k - not including taxes.

'Course I'm not getting the tax deduction on interest. ;)

Jan 10 10:40 AM

[juanito:]

this article is so badly thought out that i don't know where to start. so, i won't.

Jan 10 12:10 PM

[Still Renting:]

If, as a potential home buyer, I could choose the kind of interest rate climate I would enter it would be one of very high rates. There are many advantages to this:
1. People do not buy a home based on price. They buy a home based on the monthly payment they can afford. This means that high interest rates will reduce the relative price of the home I purchase.
2. If the interest rate is high, I have a high tax deduction.
3. When the interest rate does drop, I will be able to reduce my monthly payment by refinancing.
4. When the interest rate drops, my home will increase in value, because the actual price of the home will be a greater percentage of the monthly payment.

On the other hand, If I buy when rates are low, I will be in for this:

1. When rates go back up, my homes value will drop to the point that I could actually have negative equity for years.
2. There will be no refinancing for me in the future. My monthly payment is as low as it will ever be.
3. When rates go back up, depressing prices, if I find myself in a position where I have to sell, I may find I have to come up with five or six digits worth of cash to cover the lost equity, or allow foreclosure.

Low interest rates are very good for sellers and those refinancing. They are terrible for home purchasers.

Jan 10 12:41 PM

[Conan the B...:]

During the Housing Bubble, renters found that they could save money by buying a house instead of renting on a monthly basis.

Renters were treating homes as if they were Apartment substitutes with lower monthly rates, they have no qualms about walking away. IMO

Jan 10 12:43 PM

[Still Renting:]

Which is why I now rent. :)

you nailed it.

On Jan 09 09:07 PM scotty1560 wrote:

> Felix - good article..
>
> I wouldn't worry about mortgages being cheaper that rent...
> The taxes and insurance and maintenance have to be equated in home
>
> ownership, and they are severe in South Florida.
>
> 500k home averages 10k in taxes, 5k insurance, 10k maintenance..
>
> that's $2000+ monthly before you get to the mortgage.
> That same home rents for $2500-$3000 month, so it's far cheaper to
> rent.
> Local governments got greedy and insurance is a scam...will continue
>
> to be a burden to re-inflating prices.
>
>
>

Jan 10 12:43 PM

[Still Renting:]

I owned for over 20 years. I now rent. I LOVE IT. I rent a five bedroom home in an upscale neighborhood with a back yard landscaped like a part (1/3 acre), two car garage and air conditioning. This in a "near Seattle" suburb for $1,600 a month. If I had purchased this home, the monthly cost would have been well over twice that and the home is worth roughly $120k less than it was when I moved in.

My only complaint is that when I put the video projector in I couldn't embed the wires in the walls.

I confess that not owning may be harder on my wife though. She's not crazy about the kitchen but obviously we are not gonna remodel. But, on a side note, think of all the remodeling money I'm saving. Seriously.

And the kitchen is really fine. And we don't have to go through the "conflict" of making the decision. It really is win-win.




On Jan 10 10:37 AM secmaven wrote:

> A man's home is his castle. Economics plays only a part in the
> decision to be a home owner. Pride of ownership. Keeping up with
> ________ and other psychological reason trump the numbers. Watch
> the Home and Garden channel for an insight into homeowner/buyer psychology.
> These folks did not major in calculus.

Jan 10 12:50 PM

[yk00002:]

If there is no bubble (meaning a house will appreciate at the rate of inflation minus about 0.7% a year because it is getting older!!!),
it makes sense to buy a house only if the present value of the cash flow going out as mortgage+taxes+insuran... is less than the present value of rent, plus the benefit that when you rent you are not tied down.

So, the market is starting to become rational in some places? what's strange about it?

Jan 10 02:52 PM

[toobad41:]

It seems to me that a rental property is a holding place until one can afford to purchase or locate an area where they want to settle down. The problem I see with the rental homes in my neighborhood that they have been trashed inside and out. People who rent have no pride in ownership. For instance just across the street in a single family dwelling there are at least nine adults living there along with 5 children. And just as many cars in the road, driveway and lawn. The owner does not care one bit about the condition of the property. The owner goes to Florida for the winter and leaves the up-keep to a realty company. They do nothing either.

Jan 10 03:52 PM

[ProRent:]

I am an engineer working at an aerospace firm. I started looking for my first house a couple of weeks ago. After talking with a few loan officers, it has become abundantly clear that there is absolutely no point in me buying at this point. The reasons, for me, are:

1) It will take years to build any appreciable equity with a 30 yr mortgage, longer than I plan to stay in the home

2) Appreciation value is extremely low - my money will appreciate faster in a money market account (and through equity trading, where I have gained some skill)

3) Taxes and PMI (I can't afford a 20% downpayment at this point) make the monthly payment on a home ridiculous vs. a rented space of the same size

4) I will have to cover all maintenance costs and home insurance, which are included in a rental agreement

5) The house will tie me to one spot, hindering my transition to a new location if I am laid off, whereas I can break a rental contract without too much trouble

I understand pride of ownership, but I will be taking a greater pride in building personal wealth through saving money than spending it on a house. That way, when I do finally decide to buy, I can afford the downpayment and avoid the PMI.

Jan 10 04:05 PM

[1RuleNoRules:]

Did you say "affordable-housing"? That is lefty spin terminology. Housing is housing. A glut of luxury rentals will cause all rents to fall. Don't drink the Kool-Aid. Marxism is dead. There is no class struggle. affordable-housing means build more dumps, don't want it don't need it. Let them build housing at the high- end, or the most profitable end. All rents will be affected and EVERYONE benefits. Liberals talk about affordable-housing. Let me translate. Government intervention, political jobs for my political supporters to interfere in free markets to buy votes from undereducated Kool-Aid drinkers by promising an advantage or handout.

Jan 10 07:21 PM

[bigmoney:]

renting a single family house is a no-brainer, in theory. However, I lived in a rent house, and came home from work one day to find a notice to vacate in 30 days. Landlord had sold the house without warning.

I rented a brand new duplex before that, that backed up to a beautiful park. Within a year, the unit next door was converted to Section-8, and a bunch of shiftless types moved in, breeding pit bulls, playing loud stereo, and coming and going at all hours.

Renting a high quality apartment is another approach, but often what separates floors is just sheet rock and carpeting, so noise travels down very easily. And its quite common for upstairs neighbors to own subwoofers, heavy dogs, and other noise generators.

So basically, there is no free lunch.

Jan 11 03:11 AM

[ubuy2w:]

First of all the average house in the USA is not valued at 500K. Second the average property tax is not 10K or 2 % of mkt value nor are insurance costs on avg. 5k or 1% of mkt value nor are avg upkeep costs 10K or 2% of value. Picking numbers out of you a@# and representing them as valid data adds nothing to the debate.


On Jan 09 09:07 PM scotty1560 wrote:

> Felix - good article..
>
> I wouldn't worry about mortgages being cheaper that rent...
> The taxes and insurance and maintenance have to be equated in home
>
> ownership, and they are severe in South Florida.
>
> 500k home averages 10k in taxes, 5k insurance, 10k maintenance..
>
> that's $2000+ monthly before you get to the mortgage.
> That same home rents for $2500-$3000 month, so it's far cheaper to
> rent.
> Local governments got greedy and insurance is a scam...will continue
>
> to be a burden to re-inflating prices.
>
>
>

Jan 11 10:41 AM

[ubuy2w:]

Felix clearly your biases are dictating your opinions. I am sure that you are aware that mortgages may be assumable so that a low long term mortg. may in fact increase the value of your property if interest rates are higher at some point in the future, the rest of your comments and observations are also similarly flawed . Residential real estate prices are above equilibrium prices in some mkts some dramatically so Manhatten and Maui for sure while others are dramatically below equilibrium values. Detroit certainly represents a attractively priced mkt. A bubble did take place and prices in many mkts have further to fall ,however many mkts are already entering the overshoot phase and worthy of inclusion in an investors portfolio. Since it is almost impossible to invest in any type of residential index investment it seems that residential real estate prices has been and will continue to be an intensely localy dominated mkt where general observations like yours ad little value to making an investment decision.

Jan 11 11:17 AM

[Donnie B Good:]

I always enjoy reading these blogs as I must live in an alternate universe. Where I live, It would cost me more to RENT than to own.

I bought my house in 2007 for 150K, paid cash. 3 year old house, so no real maint costs and I have USAA for homeowners insurance- cheap . total cost to own= opportunity cost on 150K,( say 3% cd) $375 month, Taxes are $242 month, insurance = $68 month, maint, ok mabe 1/2%= $62 month, Total monthly cost to own= $748 month. Cost to rent comparable 3 bd/2 1/2 bath house= $950.
And to top it all off, I'm 1 hour west of Madison WI, rated the #1 best job market by Forbes and business week.
Thank God I left Southern California. I LOVE Wisconsin. and yes it does snow, but there's a new invention called all wheel drive with heated seats.
peace out from Lone Rock, WI

Jan 12 12:32 AM

[Tran Harry:]

People are forever enslaved to the values of their home and rely on it as a tool for purchasing, investing, and retiring. This is one of the main reasons why they don't want to see their home values falling. Especially seeing as how many of the homeowners are the baby boomers ready to retire, they know a huge sell off of their homes will drive prices down but that is reality, yet they will do anything and everything to try and maximize their sales price.

We as the newer generation of 20 somethings have no control over this aspect except not to buy their crummy homes for over inflated values so that they can rest easy on their sale of a home they bought 20 years ago for $350,000 which they're trying to swindle off in some markets for over $1 million.

And if they can do this to retire, than there is no way that our generation will be able to retire owning a $1 million dollar home, unless we want our money to be the same as Zimbabwe's were in another 20 years the home will be worth $2 million. Face it that is fantasy, and not reality, and no one who has an intelligent brain will want to sign away their lives to pay off a $1 million dollar mortgage because they know with high mortgage loans, and low starting salaries they'll be working into their late 70's to complete their obligations.

Jan 12 02:04 AM

[Tran Harry:]

Here is a clear example of how a home is a liability, the recent flood damage to homes in the Pacific region in Washington State due to rising water lines in the adjacent rivers. Many people did not purchase flood insurance because well that area of the land was not a designated flood area. Well times have changed, and the Government Engineers Corps released the flood waters to prevent a dam from bursting, leaving a bunch of people to suffer from 10-20 foot flood waters.

All their property is destroyed and they will have to rebuild their shattered lives. Their homes weren't assets, they will have to fix these homes because these are their places of shelter they cannot so easily move away. If they were renters their possessions would most likely be destroyed but if they decide to they could easily move elsewhere. Where is the asset growth ideology of owning a home if these home owners replace all their possessions only to have the flood come back next year?

In Chehalis, WA there was flooding occurring throughout the city, the same flooding occurred this year as well, all these people have damaged refrigerators, washers, dryers, etc. Just those 3 items alone not to mention foundation damage could easily cost $10,000 or more, so much for pulling out a HELOC to finance those purchases.

And for any homeowner in Chehalis, WA that I'm sure wanted to move out of there after last years flood, they probably couldn't because they were stuck with a home they had to sell with a buyers market, they were stuck.

seattletimes.nwsource....

This is really sad news that people don't want to allow their home values to lower even a few bucks, they had their use out of the home, it is a physical asset, therefore it deteriorates with time. So why not like Automobiles, if I buy a used car from someone say a 2001 Honda Civic from the original buyer I pay him LESS money than he paid to the dealer when the Car was considered NEW. USED USED USED, homes are USED, the owners got use out of it, they need to offload these things when they can no longer afford to hold onto them, such as during retirement or job loss, at a lower price so that someone else can tend to the asset.

Jan 12 02:12 AM

[Things to Come:]

It won't matter in a couple of years anyway. The government will own about 40% of all home mortgages and will become the biggest slum lord the world has ever seen. The title of the script will read, "A Section 8 Neighborhood" coming to your community soon. Home ownership will mean nothing as soon as Congress repeals the capital gains benefit.

I agree with previous posters as well. I home was never intended to be an investment, but rather just a place to live. The next two years will tell it all.

Jan 12 03:01 AM

[Happy Retiree:]

Here is what you retirees have to look foward to: Purchased a small mobile home in south Texas , about 1800 sf in a retirement community. Price: $54M, Taxes : $ 680 or 1.3 %. Insurance: $ 640. or 1.2 % ( hurricane area so costly ) Maintenance: say $75. per month = $900. per year or 1.6% if you are DIY. Appreciation of housing is about 3-5% per year due to the retiring baby boomers. BRING THEM ON .

Jan 12 06:26 PM

[kicker car ...:]

Kicker car subwoofers, as you can well understand, are a perfect way, to kick start the required bass effect in the world of contemporary music. Kicker car subwoofers are always in sync with the latest technology and well versed with the knowledge of ideal color combinations.

May 11 05:29 AM