Hey there, time traveller!
This article was published 4/5/2012 (1516 days ago), so information in it may no longer be current.
Canadians are obsessed with owning a home. So are Americans. It's part of the dream of success and family and happiness. In Europe, some people who have success and families go a lifetime without owning. They rent. But here, if you don't own, you feel like you're missing out, or making a mistake. Your friends tell you "you're throwing your money away" and that's embarrassing.
That's not necessarily true. Renting isn't throwing your money away; you're getting a home in return for your money. Buying gas isn't throwing your money away either, although you literally turn your money into something you quickly burn. It gets you from point A to point B so it's money well-spent if getting there is important.
The economics of buying versus renting are not clearly in favour of renting.
An acquaintance rents a $750,000 home for $3,500 a month. His friends and family all tell him he's crazy, that he could be paying a mortgage for that kind of money -- the usual refrain we've all heard before.
No one ever says "hey, you could get a mortgage and pay $500,000 in interest to a bank for the next 30 years." If they did, the supposed advantages of owning over renting wouldn't be quite as attractive.
To return to my friend, he's paying $42,000 a year in rent. Yes, that sounds like a lot. But his place is new, has 2,200 square feet plus a finished basement, is in a nice part of town, and the rent includes utilities, snow removal and lawn maintenance. He pays no maintenance or property tax.
It's impossible to know how the owner structured the purchase of the house, but let's say he bought it with cash. He's earning, after paying for utilities, taxes and the rest, about $28,000 a year by my back of the envelope. That's a roughly 3.7 per cent yield. Now factor in the time and effort the landlord has to put in to manage the affairs. It's hard to put a value on that, but if you're fully employed, as is the landlord (he's a doctor), it's worth a lot -- it's time away from work or family. So the true yield is less.
Now compare that yield to other sources of income. It's surely higher than bonds and GICs. But you can do much better in the stock market.
Ah, you will likely say, stocks are risky.
Yes, they appear risky, given the volatility of the recent past. But not all stocks are that risky. Pipelines and certain stable businesses are far less risky than the average share.
They are also far less risky than housing. That market is deceptive. It has done nothing but rise for a decade or more, and has returned more than twice over that period as its long-term historical average. No asset class has ever done that and not corrected. Housing is no exception. And given the banks are even warning about housing, along with the government and the Bank of Canada (indirectly), you know there's a correction coming. The banks are worried about their investments and loans. They also have inside information on how the market, and the attendant debt, is performing.
So to rent as opposed to buying (or buying and renting out) is not stupid. It might be smart.
With that said, I saw an article recently that recommended selling your home before the correction and renting. That doesn't seem like great advice, especially if you have a lot of equity built up. A home has more value than dollars.
Fabrice Taylor is author of the President's Club Investment Letter. Email him at: