Given the hefty upfront costs associated with purchasing a home, most young people begin their independent lives renting an apartment. As they build careers, save money, and start families, many choose to buy a home. On the other end of the age spectrum, homeowners nearing retirement may choose to sell their family homes, downsize, and become renters once more.
Since the middle of the 20th century, the U.S. homeownership rate has fluctuated between 62% and 70%. According to the U.S. Census Bureau, it sat at 63.7% in the second quarter of 2017, near lows not seen since the mid-1960s. By contrast, the rental vacancy rate was 7.3% in Q2 2017, near a 20-year low.
The homeownership rate has been in the doldrums for years. The decline is largely due to economic and demographic factors, such as the downsizing efforts of aging Baby Boomers, elevated housing prices in some high-population markets, and high student debt loads that prevent many younger buyers from saving enough to make down payments.
Regardless of the big-picture socioeconomic forces that affect homeownership rates, determining whether and when to purchase a home is a personal choice that demands careful deliberation. This decision varies from market to market – what makes sense in Peoria might not work in San Francisco, and vice versa. Also, because American culture idealizes homeownership to a certain extent, emotional and social pressures can affect the decision almost as much as financial concerns.
Are you a renter interested in buying a home, or a homeowner wondering whether renting makes more sense at this point in your life? It’s time to evaluate the relative costs, benefits, and drawbacks of owning versus renting your home.
Costs of Buying & Owning Your Home
Upfront & Closing Costs
Buying a home entails numerous upfront costs. Some are paid out-of-pocket after the seller accepts your purchase offer, while others are paid at closing.
- Earnest Money. To show the seller you’re serious about buying the property, it’s customary to accompany your purchase offer with an “earnest money” check. Earnest money generally ranges from 1% to 3% of the home’s purchase price, depending on local market conditions and the seller’s preference. After accepting the offer, the seller deposits the earnest money funds into an escrow account, and the amount is credited against your closing costs.
- Down Payment. Your down payment is the percentage of the home’s purchase price that you pay upfront, typically at closing. You need to specify a down payment amount in your purchase offer, though you can change it prior to closing if the seller agrees. Your down payment amount varies widely based on your credit profile, local market conditions, and the type of mortgage loan you’re approved for, but typically ranges from 3.5% (chiefly for FHA loans) to more than 20% of the purchase price.
- Home Appraisal. To ensure that the offer price matches the actual value of the home, lenders require a home appraisal prior to approving the loan. Appraisal costs, typically $300 to $500, are paid during or before the appraisal.
- Home Inspection. Licensed home inspectors are trained to find potential problems and defects that might not be apparent to an inexperienced buyer doing a casual walk-through. For this reason, buyers are strongly encouraged to get one, even though private lenders rarely make loan approval conditional on a completed home inspection. The cost is similar to the appraisal and is usually paid at the inspection.
- Property Taxes. Since property owners pay property taxes upfront, usually in six-month increments, you need to compensate the seller for taxes paid on the period between the closing date and the end of the current tax period. This expense varies widely based on your local tax rate and the closing date. You could be responsible for nearly six months of property taxes, or practically none at all.
- First Year’s Homeowners Insurance. Lenders require proof of homeowners insurance prior to closing. You almost always need to pay the first year’s premium upfront, either on the date you purchase the policy or at closing. Homeowners insurance costs vary based on the value, style, location, and contents of the home, as well as your credit score, policy deductible, and coverage limits.
- Other Closing Costs. Appraisal, inspection, taxes, and insurance are just a few of the many line items bundled into your closing. Other closing costs include loan origination charges, credit report fee, flood certification fee, lender’s and owner’s title insurance, recording taxes, state and local transfer taxes, first month’s mortgage interest, and closing fee. As a rule of thumb, you can expect your total closing costs to range from 2% to 4% of the purchase price, with the ratio falling as the purchase price increases.
Depending on local real estate market conditions, general economic climate, and negotiations, the seller may agree to pay some or all of your closing costs. Before making an offer, ask your agent whether it’s realistic to expect the seller to share or cover closing costs in your current market.