Introduction
In the current world, with the increasing inflation rates, many are now interested in the difference between renting and purchasing. Renting means using a product or a service with an agreement in which a fee is paid in exchange for a predetermined period; the item used belongs to someone who always referred to us as the landlord. The agreement always stipulates the responsibilities and the demands of the user and the owner; this is always signed by the responsible parties (Banerjee, 2020). Purchase of property is a written agreement that specifies the terms and circumstances of the property sale between the buyer and the seller. With the current economic state, the buyer seeks information to choose the best decision to rent or purchase, considering the time value of money. Purchasing calls for the interested party to plan for their finances in the long run to maximize available market opportunities.
Everyone wants to own their property because it gives them a sense of power and belonging, and they enjoy knowing they own it. However, is buying a house the best action, or should one keep renting?
Although the rent vs buy argument is not new, it appears to be the topic of conversation these days due to the insane property market of the last few years. Both buying and renting have advantages and disadvantages. Therefore, buying or renting depends on one’s financial situation.
One enjoys privacy and ownership when one purchases a home, but the high maintenance cost, taxes, interest, and insurance may quickly add up. Less maintenance cost and greater mobility are two benefits of renting a house or apartment. However, one might have to deal with noisy neighbors, rising rent, or a spoiled landlord. It is undeniable that having a house may bring happiness and pride.
” time value of money” is crucial to “financial planning.” The time Value of Money is predicated on the idea that inflation causes changes in the value of money over time because it illustrates a crucial idea: money has a higher value in the present than it will have in the future. “Purchasing power” is another idea that makes use of the TVM. It says that a given amount of money can now buy more products than it would in the future. The real interest rate will also alter in terms of purchasing power.
The time value of money is crucial in assisting investors in choosing where to invest cash and making investment decisions. Because it accounts for risk, inflation, and return over a specific time frame. In addition, the time value of money is helpful when saving, especially when there is a goal worth of money to achieve over time. Thus, it will inform the user of the money saved today to obtain the required future worth (rather than just the amount), allowing both people and organizations to achieve their financial objectives.
According to TVM, a profit is not solely derived from increased cash flow; it also has a much higher value as money is presently more valuable than it will be. Additionally, the investors need to think about opportunity costs. To do this, they should use the TVM to determine what the other investment opportunity can offer them and how much this trade-off will cost.
The notion of the time value of money is significant since most businesses invest for both the current and future worth of their investments. People in the company or who make investments always want to know if their choices will turn out well in the long run. Unlike tenants, homeowners can alter and update their homes to suit their preferences and requirements. O adds value to the house and improves people’s quality of life by enabling them to design the living space of their dreams.
When deciding to rent or buy, several factors must be considered; Location is another crucial element. In three to five years or longer, one’s current location could be different from what one wants to be. Purchasing may be a safe option if one has a time horizon longer than five years, as it is likely cheaper than renting.
The availability and condition of the property market can heavily influence rent vs. buy decisions. If costs are exorbitant and still rising, we should hold off on renting until costs decline. Interest rates are no exception. If not many houses are available for rent, though, one could be better off buying—even if one does not plan to stay in the neighborhood for long.
Ultimately, if one owns a home, one is accountable for any maintenance issues; if one rents, maintenance-related issues are the landlord’s obligation. When purchasing a home, it is critical to confirm that one has the money available in case of any maintenance issues. All maintenance equipment, including lawnmowers, snow blowers, and washers and dryers, must be purchased by homeowners.
One should be able to decide whether or not to purchase a home with the aid of these crucial details. We reviewed the factors that affect the decision to buy vs rent, including equality, cost-effectiveness, and maintenance management.
When buying a house, one’s credit score matters since a higher credit score, less debt, and solid finances translate into a better interest rate.
Time value of money about Purchase and renting decision
Background
Ben is weighing his options between renting and buying a house. He must consider several variables, including the mortgage rate, the initial down payment, the opportunity cost of the acquisition, and the additional monthly payment.
The computation makes several assumptions, such as not accounting for property appreciation, general inflation rates for expenses, rental price inflation, and general inflation rates for expenses; it also assumes that all associated charges stay the same; compound interest is not applied, and there is no prepayment penalty when the loan is closed.
| Amount Invested | |
| Details | Amount |
| Deposit | $210,000 |
| Tax on local deed transfers 10% | $ 8,000 |
| Tax on provincial act transfers 10% | $ 8,000 |
| Closing fees | $ 2,500 |
| Total cash expenditure required | $228,500 |
Monthly payments on a mortgage
The Annual percentage rate used is 2.5% based on 0.5 compounding. Consequently, the monthly interest rate charged (EMR)
| Effective annual rate; | ((1+i/n)^n)-1 | |
| n – number of periods | 2 | |
| I – interest rate | 2.5% | |
ICONV => NOM = 2 ; C/Y = 2 ; CPT EFF = 2.52% (EAR)
The monthly interest rate charged; (1+EAR)^(1/12)-1
= (1+2.52%)^(0.083)-1
=0.2076%
The mortgage loan will run for 30 years, and the loan amount will be $800,000; the monthly repayment amount is derived from 0.8 of the loan amount.
| P(r/n) | |||
| Monthly Payment | (1-(1+r/n)^(-nt) | ||
| Payment | 640,000(0.0252/12) | ||
| (1-(1+0.0252/12)^-(12*30) | |||
| 1,344 | |||
| 0.53009 | |||
| = | $ 2,535.43 | ||
Chance of expense
It is the price paid for selecting one option (renting or buying) over another when considering the possible profits or losses incurred by choosing the other option, known as the opportunity cost.
The return on investment rate is considered to be the same as the monthly interest rate. Therefore, the return on investment for the month is;
(1+(Monthly EAR* Invested amount) – Initial investment
(0.2076%*228,500)-228,500
148,800.29-228,500
= $ 474.37
The monthly opportunity cost of the invested amount would be $ 308.29.
Additional costs on purchasing vs Renting
| Purchasing | Amount | Renting | Amount |
| Monthly payments on a mortgage | $ 2,535 | Monthly rent payment | $4,000 |
| Condominium charges | $1,000 | ||
| Taxes on property | $400 | ||
| Charges on basic maintenance | $60 | ||
| Chance on expense for a month | $474.37 | ||
| Total monthly expense | $4,469.37 |
Ben’s monthly payment difference if she buys the property rather than rent equals her closing costs less her rent. The workings above show that the monthly payment chooses to purchase $4,304 and rent $4,000; this means that if Ben is to buy the property, he must incur an additional cost of $304 per month (Chi et al., 2023).
The principal amount remaining on the mortgage;
| Year 5 | |
| Remaining Mortgage | P(1-(1+r/12)^-(12*n) |
| r/12 | |
| 2,535(1-(1+0.0252/12)^-(12*25) | |
| 0.0252/12 | |
| 1,183.99 | |
| 0.0021 | |
| = | $563,804.76 |
| Year 10 | |
| Remaining Mortgage | 2,535(1-(1+0.0252/12)^-(12*20) |
| 0.0252/12 | |
| 1,002.77 | |
| 0.0021 | |
| = | $477,509.52 |
| Year 15 | |
| Remaining Mortgage | 2,535(1-(1+0.0252/12)^-(12*15) |
| 0.0252/12 | |
| 797.25 | |
| 0.0021 | |
| = | $379,642.86 |
After the 5th, 10th, and 15th year, the mortgage balance is recalculated at the monthly payments’ Net present value.
| Five years | Ten years | 15 years | |
| Condominium charges change | 0% | 0% | 0% |
| Sale Amount | 800,000.00 | 800,000.00 | 800,000.00 |
| Remaining mortgage | 573,804.76 | 527,509.52 | 379,642.86 |
| Cash inflow upon closing | 226,195.24 | 272,490.48 | 420,357.14 |
| Sale expenses | |||
| Real Estate charges 5% | 40,000 | 40,000 | 40,000 |
| Final costs $ 2,000 | 2,000.00 | 2,000.00 | 2,000.00 |
| Total | 42,000 | 42,000 | 42,000 |
| Expenses on Purchase | |||
| Deposit | 210,000.00 | 210,000.00 | 210,000.00 |
| Tax on local deed transfers 10% | 8,000.00 | 8,000.00 | 8,000.00 |
| Tax on provincial deed transfers 10% | 8,000.00 | 8,000.00 | 8,000.00 |
| Closing fees | 2,500.00 | 2,500.00 | 2,500.00 |
| Total purchase expenses | 228,500.00 | 228,500.00 | 228,500.00 |
| Opportunity cost per month $474 | 11,850.00 | 9,480.00 | 7,110.00 |
| Gain or loss | – 14,154.76 | 34,510.48 | 184,747.14 |
The net gain or loss for the above calculations is estimated by comparing the net cash flows with the total Purchase and additional monthly payments. We found that as of the 5th year, Ben suffered a net loss of 14,154.76; in the 10th, he gained 34,510; and in the 15th year, he earned 184,747.
Recommendations
Ben should consider that while a rental payment is an unrecoverable expense, a purchase through mortgage payment is a recoverable one (Statista, 2021). When purchasing, the costs that cannot be recovered include the cost of capital, general upkeep, property tax, maintenance charge, and mortgage interest. Furthermore, as shown in the above calculations, Ben must regularly review her estimates and assess the market.
Ben should consider the general inflation rate while estimating the property’s worth because costs like taxes on property, condominium fees, and maintenance costs will likely rise in response to inflation. Additionally, using past data, she should project the rent increase rate to more accurately compare rent and buy.
The local economy also significantly impacts the property’s future worth. Thus, during a recession, Ben is more likely to lose his job, be unable to pay his mortgage, and have fewer opportunities to look for work elsewhere because Ben might need more money to move. Tenants who rent have more liberty than those who own because they can move around more freely and increase their monthly investment. The risk of renting is that the owner might decide to sell it and might have to ask the tenant to leave.
Conclusion
Whether to buy or rent is far more complicated than figuring out which is cheaper. Everything we have covered here influences the ultimate choice: to buy now, wait, or rent for the rest of one’s life.
While housing decisions are personal, customs and preferences can represent differences in global culture and norms. In addition to having significant personal meaning for us, our residences are crucial to our financial situations (Gollapudi & Panigrahi, 2016).
These factors make housing selections and Purchase or rental decisions among our most crucial ones. These choices are made in a social and economic environment which frequently places restrictions on them. Property prices are subject to supply and demand fluctuations, which might cause uncontrollable volatility in our financial situation. A significant age gap in tenancy has resulted from rising accurate prices in recent years, with younger individuals more likely not to be buyers but renters.
Long-term owner-occupiers have experienced an increase in their real estate investments. However, for many households, the dream of buying a home still needs to be attainable since they need more money even to begin saving a down payment, and they frequently have to rely on government-subsidized rent to afford a place to live. Many more households in less developed nations may have de facto ownership of their home, even if it is only a slum’s improvised shelter.
The housing crisis, in which supply cannot keep up with demand, is a topic that is frequently discussed in the media. Government policy must address this issue to ensure that everyone has access to adequate, affordable property.
Renting vs purchasing has pros and cons; therefore, to choose the best course of action, one needs to consider several factors as per the above research. It is also possible to feel like one made the wrong decision to buy or rent. If it is buying, one can rent it and gain income.
References
Banerjee, S. (2020). Improving online rent-or-buy algorithms with sequential decision-making and ML predictions. Advances in Neural Information Processing Systems, p. 33, 21072–21080.
Chi, T., Adesanya, O., Liu, H., Anderson, R., & Zhao, Z. (2023). Renting than Buying Apparel: US Consumer Collaborative Consumption for Sustainability. Sustainability, 15(6), 4926.
Gollapudi, S., & Panigrahi, D. (2019, May). Online algorithms for rent-or-buy with expert advice. In International Conference on Machine Learning (pp. 2319-2327). PMLR.
Statista. (2021, October 15). House prices Canada 2014–2020 with 2022 forecast, by province. https://www.statista.com/statistics/587661/average-house-prices-canada-byprovince/
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