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Rising Interest Rates: Renting Versus Buying

Rising interest rates are generating a buzz within the housing sector. According to a recent report issued by Trulia, buying a home in today’s market continues to remain cheaper than alternative rental options. This trend will continue until interest rates on 30-year fixed mortgages surpass the designated “tipping point” of 10.5 percent on a national average.

As predicted, rising interest rates are resulting in more expensive homes. The average 30-year fixed rate mortgage has increased from 3.4 percent to 3.9 percent over the past month. The rising interest rates have already had a dramatic affect on the cost of homes, as it has served to raise the monthly payment on $200,000 mortgages by $56.

Despite the recent increase in interest rates and housing prices, purchasing a home is still a cheaper alternative to acquiring a rental property. Interest rates still remain at near long-term lows and houses are still relatively cheap as a result of the recent bubble. Therefore, the recent jump in rates doesn’t change the rent-versus-buy ratio.

While rising interest rates are likely to continue their upward trend, it will be a while till buying a home becomes more expensive than renting. Trulia’s Rent Vs. Buy Analysis suggests that buying a home will remain cheaper than renting so long as mortgage rates are below 10.5 percent. In determining the “tipping point,” Trulia analyzed the latest asking prices and rents from March, April and May of this year. They calculated the cost of buying and renting for identical sets of properties, including maintenance, insurance, taxes, closing costs, down payment, sales proceeds, and the monthly mortgage payment on a 30-year fixed rate loan with 20% down and monthly rent.

According to Freddie Mac, buying a home is 41 percent cheaper than renting when respective interest rates are settled at 3.9 percent. Even mortgage rates of five percent result in a home that is 34 percent cheaper to own when compared to renting. On a national level, mortgage rates would need to surpass 10.5 percent in order for them to be considered more expensive than renting.

Double-digit rates as high as 10.5 percent are not unheard of, as they were a common occurrence during the 1980s. However, buyers associated with today’s market have become accustomed to single digit rates for the last 23 years.

The 10.5 percent “tipping point” serves as a national average for the rent-versus-buy ratio. However, individual markets have their own “tipping point.” At 3.9 percent, buying is cheaper than renting in all of the 100 largest metros, which means the tipping point is above 3.9 percent everywhere. The following illustrates the top 10 metro areas with the lowest mortgage rate tipping point:

  • San Jose, CA (5.2%)
  • San Francisco, CA (5.4%)
  • Honolulu, HI (5.8%)
  • New York, NY (6.8%)
  • Orange County, CA (6.8%)
  • Los Angeles, CA (7.5%)
  • San Diego, CA (7.5%)
  • Ventura County, CA (8.0%)
  • Sacramento, CA (8.0%)
  • Oakland, CA (8.2%)

While buying a property is currently cheaper than renting one, not everyone will be afforded this luxury. Many prospective buyers are unable to acquire a down payment or simply can’t qualify for a mortgage. Complicating the already volatile situation are shortages on available properties. Tight housing inventories have made it difficult for potential homeowners to find the house of their dreams.

For those looking to buy, now is the best time to purchase a house. Rising interest rates are making a comeback and houses are becoming more expensive. The resurgence of our economy will only persist to increase prices even more. However, it will take a substantial rate increase to turn off prospective buyers. Even with the recent jump, rates would have to rise to levels we haven’t seen in 20 years before renting is cheaper than owning.

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