Before we get started, we just want to wish all our readers a Selamat Hari Raya Aidilfitri. We wish each of you the very best for the upcoming holidays. Drive safe, have fun and do good things.
Now back to our previous topic: Is it better to buy or rent?
Here's a real life example using numbers taken from a real life case.
Say you have RM 100,000 in savings.
You can spend RM 1500 a month to rent a nice brand new studio in Petaling Jaya = RM 18,000 a year.
Or you can buy this studio for RM 600,000.
This option means you have to put down 10% for your down payment (RM 60,000), and you'll also need to pay for your SPA legal fees (RM 4,650) & stamp duty (RM 12,000), loan document fees (RM 4,230) & stamp duty fees (RM 2,700) (even if the developer is kindly 'absorbing' these costs, you don't need to worry that they're going to suffer because of their kindness, its all baked in to the price of the development, so one way or another you're paying for it.)
So that's a total of RM 83,580 upfront taken from your savings.
After all that, you'll still need a loan of RM 540,000 to cover the balance.
Your monthly payment will go partially towards paying the principal of your loan, and the rest towards paying the interest on your loan (typically the majority of initial payments will go towards interest, with more going to paying off the principal as time passes).
Now for this example we're going to simplify things by saying the loan is an interest only loan, so your monthly payments are just for your interest, and you can pay down your principal as you wish. The more complex situation will be slightly different, but won't change any outcomes.
Lets say the mortgage rate is 4.6%, which seems to be about the case as of this writing.
So that's a yearly interest payment of RM 27,600. Essentially you can think of this as the cost of renting the money in order to buy the house, vs. renting the actual house.
In addition to this, you'll be paying property taxes every year, you'll have maintenance costs and so on. For the property in question the condo service charge is about RM 260 per month or RM 3,120 a year.
Let's say all these miscellaneous ownership costs add another RM 2,880 per year for a total annual outlay of RM 6,000 (or 1% of your buying cost). Combined with interest payments your cost of ownership each year is RM 33,600.
Whether renting or buying, you're paying a certain amount every month that you're not ever getting back. This is the cost of renting or buying and does not improve the value of the asset in question, or build any equity ownership in the house (remember we are not including payments towards the principal in our example).
In our example so far, we've established that by renting, you'll be paying RM 18,000 a year, but you won't own anything.
In the case of buying, you'll be paying RM 33,600 a year, plus the initial RM 83,580 which you paid upfront. But you have the option of slowly building equity in the house itself (which costs extra since we haven't included principal repayments in these figures).
Now, things get a little more complicated.
In the case of renting, you had to pay for rent, but nothing else, so you get to keep the RM 83,500 you otherwise would have spent on upfront costs. Also, you are paying RM 15,600 less every year than in the rental case (Rm 33,600 - RM 18,000).
So in the first year alone of this rental scenario, you have RM 83,500 + RM 15,600 = RM 99,100 more in the bank account than you would have had in the buying scenario.
Now there's a huge range of things you could do with this money. You could leave it in your current account, which would provide a meager interest rate, or you could leave it in a fixed deposit account for a year, which could generate 4% or more in interest at today's rates. Or you could invest it in bonds or stocks, start a business, or just spend it all on toilet rolls and build a toilet roll castle with them. The point is the money would be around for you to use as you please, and it could grow or shrink accordingly.
Let's say you were prudent, and left it in a conservative 3.5% fixed deposit account. So you'd be getting RM 3,468.5 interest income per year from that.
Your rental outlay therefore shrinks accordingly, becoming RM 14,531.5 per year. This number would actually shrink every year, since every year you're actually saving another RM 15,600 which you can add to your fixed deposit savings for further income.
Now in both cases, we are calculating only the cost of the act of buying or renting the property, none of the money calculated here is used to build equity. In the case of rent, its just rental fees, and in the case of buying its purely interest, maintenance fees and property taxes. So the two numbers are comparable costs of the transactions.
So in the short term, there's pretty much no question that you're better off renting in this particular situation, unless the price of the property suddenly surges within that time period. Which certainly does happen from time to time. We will be looking at the long term scenario in our next post in the series.
Now, everything in this analysis depends on the numbers in question. The interest rates, the rate at which you can grow your investments, the increase or decrease in the future value of your property, the maintenance costs and so on. We've used all real numbers for this analysis, but these things change all the time, so the important thing is to use this framework and apply it to your own situation.
We're certainly not saying that renting is always better than buying or vice versa, just that in this particular situation (and in many cases in Malaysia at this point in time) there's a lot to be said for renting. In many countries with much more affordable property prices relative to income the same analysis gives the reverse result, it makes more sense to buy.
If and when the property market cools, incomes catch up, supply and demand balance out and so on, the situation can and will change, so you will want to reevaluate the situation from time to time.
Also, this doesn't take into account the more intangible benefits of buying such as:
- Stability (you won't suddenly get asked to move out if the landlord wants his house back)
- Price fluctuations (rental prices across the whole market could go up or down)
- Emotional satisfaction (its just nice to have a place of your own)
- Ability to make modifications (sometimes you just want to make changes to your living space which isn't always possible in a rented place)
The flip side of the coin is that renters enjoy:
- Flexibility (you can always move to the latest, greatest development, or somewhere closer to your new job with ease)
- Price fluctuations (if rents go down you may be able to get a reduction on your rent or upgrade to a better place for the same price)
- Less stress (without the burden of a mortgage and maintenance costs haunting you, you may have less stress and more flexibility to try new things)
- Liquidity (its much harder for property owners to move assets around as properties take time to sell, not to mention real property gains tax (RPGT) effectively lock people in for 5 years)
As usual, we've written this article (and done our calculations) during our lunch break so if you spot any errors please let us know.
In the final part of this series, we'll take into account longer term factors, such as housing price changes, to help you decide which of the scenarios you should go for in the long term.
