RENT OR BUY IN SAN FRANCISCO!

Housing

That is the question, indeed!

We asked Misha Weidman, our special adviser for everything related to real estate, and owner of the blog, RealDataSF.com, that unveils, reveals and explains everything you would want to know about the local market.

Last month, Misha detailed how difficult and expensive it was to buy a home in San Francisco. It looks like the real estate is running amok and everything one can read currently feeds the assessment and confirms the trend. Read SF real estate bubble.

So Misha... here is the thing. In these circumstances, with home prices so high, does it even make sense to consider buying?

Well, you recall we also talked about how expensive it is to rent in SF. So unfortunately you are comparing two expensive options and trying to decide which is best for your circumstances.

Let’s start by looking at the different things you’d be paying for if you decide to buy a home. First, for most of us, the biggest expense will be a mortgage. In SF, it is not uncommon to obtain a mortgage for up to 80% of a home’s purchase price. Right now, provided you have excellent credit, you can still get a mortgage for a fixed rate of around 4.5% per year, fully amortized over 30 years. Then you will have to pay annual property taxes of around 1.2% on the value of the home, as well as property insurance, which might cost around another 0.5% per year. Then there’s the cost of maintaining your home. If you compare this to the simple cost of renting, I guarantee that it will cost you more in cash flow each month to buy than to rent. (Of course, if you can buy your home for cash then you won’t have a big monthly mortgage payment. But frankly, if you can do that, I don’t think you’re going to care about renting anyway!)

Ok, so put it another way. From a cash flow perspective renting is almost always going to be cheaper than buying, correct?

Correct, and that’s what you’d expect, wouldn’t you? After all, when your lease is up, you don’t own anything.

So what are people talking about when they ask whether it’s better to rent or to buy?

It comes down to this, I believe: Are you better off “investing” your money in your home or in some other investment like the stock market.

And the answer is…?

Well, even after the Great Recession of 2007/2008, the statistics suggest that San Francisco home prices have increased around 244% between 1988 and now. That’s an annual average of 5% per year and about 2% more than the rate of inflation.

But remember, few people buy their homes for cash. Rather, they put down 20% and finance the rest. The result is a multiplier effect on their return on their investment, otherwise known as the magic of “leverage.”

Say, for example, you bought a home in 1988 for $500,000 by “investing” $100,000 of your own money and financing the balance. This chart shows that even at modest rates of home price appreciation and inflation, your $100,000 investment would have grown to nearly $900,000 in that time.

Of course, it’s more complicated than this chart suggests. I have a more detailed discussion that you can find here at my blog, RealDataSF. And for those that really want to get into the details there are some very sophisticated calculators that allow you to input virtually every assumption and parameter you can think of. My favorite is one that is available at the NY Times, here.

So you would recommend buying a home as an investment?

Well, as with any investment, you can get burned if you have a short time horizon or if you don’t do your homework. But it’s much harder to use leverage when investing in the stock market. And, most importantly, it’s not possible to live in a stock certificate. That, surely, is worth something too.

Thanks a lot Misha for these comments and recommendations.

If you want to read more about the real estate market events, development, evolution, trends... visit RealDataSF.com