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Get Fact: is it really ‘cheaper to buy than rent’?

It’s cheaper to buy a house than rent one, according to a story in The Australian Financial Review. We apply the Crikey Get Fact test to that rather bold statement.

The headline in The Australian Financial Review raised eyebrows: ”It’s cheaper to buy than rent,” screamed Australia’s leading financial rag. Reporting on a study by Mortgage Choice, Debra Cleveland reported “it’s cheaper to buy a home than rent in almost every Australian capital city … despite fewer government incentives”.

But the paper seemed more content to recycle a press release rather than actually consider whether the result of the so-called study made any sense at all. So Crikey applied the Get Fact test.

It should be noted Mortgage Choice, which commissioned the study, is a mortgage broker — it makes money solely from people buying houses. The more people houses people buy, the more money Mortgage Choice makes. It therefore has a pretty clear vested interest in convincing people to buy houses. A study which suggests buying is cheaper than renting fits nicely with that.

We looked at Mortgage Choice’s media release and it didn’t take long to realise that the entire premise of the claim was erroneous.

On face value, the data produced by Mortgage Choice appears to support the claim that it is more expensive to rent than it is to purchase a home. For example, the report found that in Brisbane the weekly median rental amount is $390 (according to APM’s December Rental Report), while weekly loan repayments were a mere $375. Similarly, in Sydney the report claimed the median rental costs of $500 per week were allegedly far higher than average loan repayments of a meagre $422.

The problem with the survey isn’t on the rental side — the median rental amounts appear reasonably accurate. However, it’s the weekly loan repayment statistic which are substantially understated — for several reasons.

First, the survey isn’t comparing like with like. Mortgage Choice calculated the weekly loan repayment data based on the ABS’ calculation of the average first homebuyer loan. That is completely wrong as it ignores numerous factors, most importantly, that most purchasers don’t take out a loan for the entire purchase price. For example, many purchasers may use a 20% deposit — but that deposit amount represent an opportunity cost as that money could be in a term deposit or the share market earning a return. The Mortgage Choice figure therefore significantly understates the real cost of purchasing a home.

The other problem with Mortgage Choices data is that it considers only first home buyer average loans, rather than data for all properties. By contrast, the median rental statistic it uses include rental received for all properties (and would therefore include more expensive residences as well as cheaper ones). What that means is the survey took a global metric for one part of the calculation and a very narrow metric for another.

Instead of using weekly loan repayments for first home buyers, the correct calculation would be to use the level of weekly interest payments based on a 100% interest only loan to purchase the median property (for each state). That way, it can be properly compared with the median rental amounts.

Let’s take Sydney: the median property price according to RP Data is $580,246. However, when you buy a house, there are other significant costs to consider, like stamp duty, mortgage fees, mortgage insurance and solicitors’ fees. As a result, the median price should be adjusted to include those payments. Doing that (remember, we are comparing the costs of renting versus buying so we need to include all expected costs), the median price real purchase cost in Sydney is around $610,000. Using the 5.9% variable rate chosen by Mortgage Choice, the imputed weekly cost of purchasing the median Sydney property is actually $691 — almost 40% more than the rental cost.

But that’s far from the end of it.

Property owners also have several other costs that renters don’t need to pay — most significantly, depreciation of the structure of the home. Dwellings tend to depreciate at around 3% annually. While land doesn’t depreciate, the cost of structural depreciation would add around $5000 to the annual cost of owning a home. Then there’s ongoing maintenance costs (replacing the airconditioner or dishwasher) which would conservatively average around $2000 a year, not to mention council rates, water and insurance of around $2000 annually (and far more for apartments within body corporates).

Taking a conservative approach of $7500 annually for those other costs, that would amount to around $150 per week. That means, the average cost to own a (median) home in Sydney would be $835 per week — or 68% more than renting. In real terms, renting will save the median Sydney-sider almost $20,000 per year (after tax).

As the table indicates, the figures are most damning in Melbourne, where owning a home is more than double the cost of renting one, Adelaide is 76% more expensive while Perth is 52% dearer. 

Mortgage Choice’s “survey” was either prepared by someone who has no idea how to calculate the real costs of home ownership, or was fraudulently devised to deceive naïve first home owners into purchasing a property. Either way, the greatest indictment lays with The Financial Review for not appearing to realise anything was amiss with Mortgage Choice’s claims.

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  • 1
    Alan Davies
    Posted Wednesday, 6 February 2013 at 12:14 pm | Permalink

    No mention of tax-free capital gain?

  • 2
    zut alors
    Posted Wednesday, 6 February 2013 at 2:38 pm | Permalink

    Mortgage Choice’s study reeks of being prepared by someone who has never owned a property.

  • 3
    Philip Clay
    Posted Wednesday, 6 February 2013 at 2:52 pm | Permalink

    The comparison by Adam Schwab is also flawed. it is still not a comparison of like with like. The comparison should be of the median rental with the cost of acquiring and maintaining a dwelling of the same capital value. That is, what is the capital cost of the dwelling with the median rental and compare that with the median rental. Then you know what the relevant costs of the same house are. We simply don’t know if the median rental dwelling is of the same quality/capital cost as a dwelling of the median property price. Look at the same house - how much is it to rent, how much is it to buy. That’s the question.

  • 4
    Christopher Nagle
    Posted Wednesday, 6 February 2013 at 3:15 pm | Permalink

    A five percent capital gain on a $500,000 is $25,000. Not guaranteed of course, but a significant factor in the buy or rent calculation.

  • 5
    kmo
    Posted Wednesday, 6 February 2013 at 5:05 pm | Permalink

    I never understand where these statements come from. Even a basic loan calculator will tell me that I would need to pay almost double my rent + fees + ongoings if I was to try to buy. And that’s without an attempt to stay close to the city or keep the square footage I have now.

  • 6
    Mike Smith
    Posted Wednesday, 6 February 2013 at 5:49 pm | Permalink

    However, when you’ve finished paying off a home loan, you’ve got an asset worth a few 100k. When you have paid a rent for the same period, you *might* have a few 100k, but my bet is most have spent it. Dollar spent on cars and consumer electronics during that period are not assets :)

  • 7
    Phen
    Posted Wednesday, 6 February 2013 at 6:18 pm | Permalink

    Part of the problem is that median property prices are extremely rubbery and not always representative. For that reason I’m sure that the very frequent (quarterly?) house price movement data that gets harped on about is effectively meaningless.

  • 8
    Adam Schwab
    Posted Wednesday, 6 February 2013 at 6:56 pm | Permalink

    @Philip Clay - your reasoning doesn’t make sense. The comparison is between renting and buying, so the correct metric is to use median property price (which covers the ‘buying’ part. Using median rental is incorrect. Less incorrect than what Mortgage Choice did, but still incorrect,

  • 9
    drsmithy
    Posted Wednesday, 6 February 2013 at 11:21 pm | Permalink

    A five percent capital gain on a $500,000 is $25,000. Not guaranteed of course, but a significant factor in the buy or rent calculation.

    And with a $400k mortgage @ 6.5%, you only have to pay the bank $26,000 to take that chance !

  • 10
    David Hand
    Posted Thursday, 7 February 2013 at 12:37 am | Permalink

    What’s “real” about going for the median house price? Most renters would be looking at entry level house prices. Median house prices mostly are purchased by people with a substantial deposit. While you rightly point out there is opportunity cost with the deposit, the fact remains that if you buy a house using a mortgage and do nothing else, 30 years later you own a freehold home. If you rent, 30 years later you own zip.

  • 11
    drsmithy
    Posted Thursday, 7 February 2013 at 7:55 am | Permalink

    While you rightly point out there is opportunity cost with the deposit, the fact remains that if you buy a house using a mortgage and do nothing else, 30 years later you own a freehold home. If you rent, 30 years later you own zip.

    Right. “Zip”, other than a huge pile of cash (and that’s assuming all you did with the money saved renting rather than buying was put it into the bank) which will by then probably buy that same house outright. And that’s not accounting for the economic freedom of not being chained to one location for that 30 years

    At some point, property prices here need to correct by ca. 50% (not to mention interest rates returning to normal levels). It might happen in a few years like America, or a few decades like Japan, but the reality is today it costs 1/2 to 2/3 as much to rent than buy, and the longer you accumulate savings while waiting to buy, the more purchasing power you’ll have (and less interest you’ll pay) when that equation finally shifts back to buying being cheaper.

    Something like 2/3 of landlords are happy to subsidise their tenants by negatively gearing their property. My advice is to take advantage of their economic illiteracy generosity and rent from them.

  • 12
    Jim Moore
    Posted Thursday, 7 February 2013 at 9:11 am | Permalink

    Adam,
    This is a worthy effort on a very important issue but I think you’d have to agree that your analysis could also be considered incomplete. I’d be surprised if there weren’t numerous research papers that go into this more fully.

    I’ll add a few points:
    - the “economic freedom” to move and not be tied to one location can also be seen as insecurity for those renters who wish to stay where they are;
    - landlords don’t subsidise renters with negative gearing, taxpayers do, and the majority of the latter are mortgagees and renters. Perhaps the economic loss is the same for both groups so this won’t change the answer, but it does highlight that people who own one or no homes are subsiding “investors” to get rich and to then continue to get rich.
    - We can’t all be landlords so the dream that we all can if only we’d get off our financial arses that is told to us is simply a lie. Renters and mortgagees have a common enemy and it doesn’t help either when the narrative in the media pits one against the other.

  • 13
    drsmithy
    Posted Thursday, 7 February 2013 at 1:21 pm | Permalink

    the “economic freedom” to move and not be tied to one location can also be seen as insecurity for those renters who wish to stay where they are;

    It’s generally not difficult to find another rental property in the same area. Certainly, there are costs to moving house, but they are dwarfed by the costs of selling one house and buying another.

    Tenants rights in Australia could definitely do with some shoring up, however - but don’t expect it to happen when the baby boomer landlords are running the show.

    landlords don’t subsidise renters with negative gearing, taxpayers do, and the majority of the latter are mortgagees and renters. Perhaps the economic loss is the same for both groups so this won’t change the answer, but it does highlight that people who own one or no homes are subsiding “investors” to get rich and to then continue to get rich.

    Negative gearing reduces an investor’s loss, it doesn’t eliminate it.

  • 14
    David Hand
    Posted Thursday, 7 February 2013 at 1:53 pm | Permalink

    Doctor,
    I’m not arguing with the mathematics. I’m commenting on behaviour.

    For most people, owning your own home is a great investment because of its enforced saving in irrespective of house price movements.

  • 15
    Stephen Macintosh
    Posted Thursday, 7 February 2013 at 3:13 pm | Permalink

    Excellent article. The duplicity and laziness, not to mention breathtaking pomposity, of the Fin Review needs to be exposed on a regular basis. The other thing that needs a good prick is the smug baby boomers who think the only way to accrue wealth is via paying a mortage for 25 years. The only people guaranteed of getting wealthy via the “foolproof” strategy are fat bankers

  • 16
    drsmithy
    Posted Thursday, 7 February 2013 at 3:55 pm | Permalink

    @Philip Clay - your reasoning doesn’t make sense. The comparison is between renting and buying, so the correct metric is to use median property price (which covers the ‘buying’ part. Using median rental is incorrect. Less incorrect than what Mortgage Choice did, but still incorrect,

    I think his point is more that the median property to rent might be, say, a three bedroom semi-detached house, but the median property to buy might be a 1 bedroom apartment.

  • 17
    Cameron Marks
    Posted Thursday, 7 February 2013 at 4:15 pm | Permalink

    Adam, I’m with Philip. Before you start throwing around accusations of others having “no idea” about calculation or acting fraudulently you’d better be sure your own house is in order. Your methodology is wonky because you assume that the value(ie.standard)of the median property by rent is the same as that of the median property by value. It ignores the possibility that an owner-occupied property is on average higher in value than a rented property, ie. the average owner-occupier pays more because their property is of a higher standard.

  • 18
    Walterguy
    Posted Tuesday, 12 February 2013 at 3:28 pm | Permalink

    I read with ongoing fascination the debate on renting versus buying. Adam’s views are shared by many including one esteemed Prof Robert Shiller from Yale….
    http://www.businessinsider.com/robert-shiller-home-investment-a-fad-2013-2
    Interestingly though, the professor owns a home, in fact two including his summer home as he puts it. Some research and measurement of the relative non economic merits of renting versus buying would be helpful to the debate.

  • 19
    David Hand
    Posted Tuesday, 12 February 2013 at 5:12 pm | Permalink

    Non- economic benefits of buying versus renting.
    1. When the washing machine breaks down, you go an buy a new one, rather than use your next door neighbour’s for six months waiting for the landlord to get off his ass.

    2. If you fit a dishwasher into the space in the kitchen designed for it, you are not required to agree to fill in the holes you will drill in the panel to connect water, waste etc. when you leave.

    3. You don’t have to move whan the owner decides to sell. you move when you decide to sell.

    4. You lock in a behaviour - saving so that over 20 years, you accumulate capital.

    5. In spite of the continuing and consistent views by Schwab, Keen, etc. that zero percent capital return is unattractive, that is not reflected in the behaviour of millions of Australians.

    6. The American experience has nothing to do with irrational investment decisions by home owners. It has everything to do with irrational decision by institutional investors in dodgy NINJA loans.

    7. Shiller’s analogy about a car investment ignores the fact that a) you drive a car, you don’t mothball it. b) If you mothballed it you must offset that action against the cost of taxis and c) after driving it for a few years, the “land” bit of the car would not have worn out.

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