One of the biggest myths in the real estate industry is that it is cheaper to rent than to buy. In 71 percent of the cities in the U.S., owning is now currently cheaper than renting.
In 2011, 1.4 million new households entered the rental market due to foreclosures and demographics — i.e., the 80 million members of Gen Y are at their prime time for starting new careers, getting married and having kids. At the same time, the number of new homes being built has dropped substantially. As a result, the demand for rental properties has skyrocketed.
Many experts are predicting that rent increases will run as high as 5 to 10 percent per year over the next five years.
What can you do to help persuade today’s renters to become buyers? Here are some suggestions:
1. Real estate keeps pace with or exceeds the rate of inflation
Everyone today is concerned about the level of federal spending. A key concern is inflation. Hard assets — real estate, gold and silver, among them — have historically served as hedges against inflation. In fact, even in the areas hit hard by foreclosures, virtually all of them have shown substantial increases in real estate values when viewed in the long term.
To illustrate this point, when my father died in 1998, his house in California was valued at $168,000. At its peak in 2006, his house was worth almost $600,000. Today it’s still worth about $350,000. That’s still a 108 percent gain in value in 13 years. While not every area has seen such increases, more than 90 percent of all homes are still worth substantially more than they were 10 years ago.
To market using this concept, here’s the headline to use on your postcards or other print advertising: "What’s the best hedge against inflation? Real estate: the only hedge against inflation that you can live in."
2. The lowest interest rates since the 1950s
A major reason that buyers should purchase now is that interest rates are close to all-time lows. When I started in the real estate business in 1978, interest rates were 9.75 percent and soon hit 10 percent. In the downturn in the 1980s, they jumped as high as 21 percent. In the early 1990s, they were at 12 percent.
If your buyers are waiting because they think prices may drop more, this is a poor idea. Here’s why: With the government running huge deficits, it will have to sell Treasury bills to cover the debt. Investors are feeling skittish about purchasing these securities.
This means the government will have to increase the rate of return in order to get more investors to purchase. When the government increases these rates, the cost of home mortgages will increase along with them.
3. Increasing interest rates add up fast
An interest increase of 1 percent results in about a 25 percent increase in interest costs over the life of a 30-year fixed-rate loan. An increase of two percentage points in interest results in a whopping 50 percent increase in the amount of interest paid. That’s why it’s smart to buy now when rates are at historic lows.
4. The market may have already bottomed
When buyers say they’re afraid the market hasn’t bottomed yet, take a look at your local market in their specific price range. Look at the number of months of inventory now vs. six months ago and one year ago.
If the number of months of inventory is declining, that lets you know that you may have already reached the bottom of the market. On the other hand, if the number of months of inventory is still increasing, then there’s a good chance you haven’t hit bottom yet.
To drive this point home, ask buyers how much further they believe the market will drop as a percentage. Most will give you an answer under 10 percent. Then point out that if they have to pay an extra percentage point in their interest rate it will cost them 25 percent more in interest over the life of a 30-year loan. Buying now, assuming that they keep the property, saves them 15 percent of their loan amount, even if the market declines by 10 percent.
5. Build your wealth, not your landlord’s
There are two other reasons why it can be smarter to purchase than to rent. When you purchase, you lock in a payment at today’s interest rate.
Assuming that there is inflation at the average rate of 2.54 percent per year (the U.S. average), 10 years from now your monthly payment will be the equivalent of 75 cents on the dollar.
In other words, a $2,000 payment 10 years from now would be the equivalent of $1,500 in today’s dollars. In 20 years, it would be the equivalent of $1,000 in today’s dollars.
In contrast, renters may continue to receive rent increases. An additional benefit of homeownership: each month you pay your mortgage, you accumulate equity. In contrast, renters are paying down their landlord’s mortgage, allowing the landlord to accumulate the wealth rather than them. Thus, in the long term, for some individuals it’s almost always smarter to buy rather than rent.