Buy or rent?

One of the financial questions almost everyone will ask themselves at some point is “should we buy a home or should we rent”. In Denmark, we have a very big societal pressure to buy. If you dare to question the general notion that everyone should buy their own home the answer I hear most often is: “I want to pay off on my house instead of pouring money into the pocket of some landlord”. This is an emotional response rather than a rational so I will try to dig into the math’s instead.

Now I will say, there are some reasons to buy a house. In general, if you look to buy you have a large selection of villas with garden while the rental market predominantly consists of apartments in some shape or form. I own a house with my girlfriend and some of the reasons we did it was:

  • We wanted a garden when starting a family
  • We wanted more space than was feasible in the apartments offered in our desired location
  • We didn’t want our hands tied when it came to remodeling and gardening

Was it a smart financial decision for us to buy a house? Absolutely not! Just the interest on our loan+the property taxes almost cover our previous rent. Then add in maintenance and utilities and we are spending a lot more than necessary. Had I been alone in taking the decision we would have probably stayed in our apartment until we had a few kids, but we are happy where we are. It is one of the sacrifices my girlfriend was not willing to make to FIRE earlier and that is fine by me. So, if you want a house then I won’t stop you, I just want to try enlightening you on the numbers so you can make an informed decision.

A house is a cost, not an investment

Many people think of buying a house as an investment. In some ways, it can be argued that it is an investment – it is an asset that you own (at least partially) and that fluctuates in value. In general though it makes a lot more sense to think of it as a cost. You will always need a place to stay and so some portion of your wealth will go to housing expenses. You can then choose to spend that money on a lease or you can choose to spend it on buying a property and both models have their pros and cons, but either way you are spending money to cover a need. Even with a paid off house you will have expenses (property taxes, maintenance, insurance to mention some).

The reason that some people view housing as an investment is probably that most people get a lot of money in hand when they sell the house. But did they really earn a lot? A lot of it is surely. From what I can find the Danish real estate market seem to trend at increases very close to the general increases in salary. Without knowing much, I think it makes sense that in an open market, when peoples salaries rise they have more money to spend on houses and the prices will reflect that. Since real income (after inflation) tends to rise a bit properties appreciate a little in value over time compared to inflation – but on a countrywide basis we’re probably talking about 0.5%-1% per year which is less than property taxes. In areas like Copenhagen or Aarhus the salaries are generally rising much faster than the nationwide average and that means that the local real estate rises at about the same pace. If that trend continues then buying in one of these places might earn you more appreciation while buying in the countryside will in a lot of cases lose your property value over time.

What most people forget when they look at property value increases is that if you own just your own house you are generally not benefitting from appreciation. As I said in the beginning of this paragraph you will always need a place to stay. So, if your entire city experiences a 30% appreciation over several years your house may be worth 30% more but if you sell it to buy another house then that price will generally also have risen by thesame amount. Of course, if you downsize your house or move to another area you might benefit since your needs changed. If you do however own more than one house, then you could benefit from appreciation and this is what some people bet on for investments.

A reverse approach

I’d like to just take a short moment to look at this from the point of view of the landlord. Those that buy properties to rent out for profit are the professionals in this world and they (at least those that are successful) know more than you and I. The rule of thumb that I hear here in Denmark is that the gross yearly rent should be at least 1/10th of the price of the property or more precisely that the net rent after expenses should be at least 1/20th. That seems reasonable since that would give you an expected return of 5% pretax which you can then leverage with a mortgage if you dare. So, say you are currently living in an apartment in Copenhagen and paying 6,000 kr rent and that that apartment would cost you 1.8 million to buy. A real estate investor would look at that and say 6,000*12*10=720,000 kr so buying the apartment to earn that 6,000 kr a month would be a bad investment. If you buy that apartment, then you’re in essence making that investment. To consider buying the apartment your actual rent should be around 15,000 kr! Of course, you are a bit better off due to tax implications – your 6,000 kr saved is tax free while the profit part of his 6,000 kr is taxed. Still I think this perspective gives some insight into just how often buying is a financially bad decision.

Generally, in Denmark it’s not that easy finding properties that you can rent out at 1/(12*10) value monthly and I think that is an indicator that renting is by and large a good option in Denmark. Between laws that regulate rent (mostly in properties built before 1992) and a general desire to own that drives prices above sensible levels (in an investment sense) I think Denmark is a pretty good country to be a renter. But of course, if you just spend all your paycheck every month and lack the discipline to save then having forced savings in the form of house payments can be pretty good for you.

Housing expenses

In a second I’ll give you a spreadsheet you can use to try to estimate the financial impact of renting vs buying with your own numbers and estimates. But let’s start out by looking at what type of expenses you have when you own a house. The categories of housing expenses on a high level:

  • Closing costs
  • Mortgage payments
  • Bank payments
  • Maintenance
  • Insurance
  • Extra utilities
  • Property taxes
  • Selling costs
  • Opportunity costs

The last two are a bit more speculative than the first ones, but the opportunity costs are a very large part of the total expenses you face when buying a house. Say you buy a house at 2.5 million kr. Then a typical down payment on that would be 500,000 kr and with closing costs and a bit of moving costs and initial repairs we might approach 600,000 kr out of pocket to get started. Of course, the 500,000 kr is not gone but it is tied to the house so we must think of the time value of it. Had you taken those 600,000 and invested them at 6% pre-tax then you’d earn around 26,000 kr a year after taxes, more if in a retirement account. Adding the mortgage interest of say 2,000,000*2.5%*0.664=33,200 kr after tax credits, property taxes of around 34,000 kr and extra insurance at say 6,000 kr and maintenance at 24,000 kr the yearly cost of owning is around 125,000 kr or close to 10,000 a month. This was just a quick example so I tried creating a spreadsheet you can use to do the calculation for yourself with your own inputs:

Rent or buy?

I made a spreadsheet that tries to approximate the actual costs of owning a house and compares it to renting.
The spreadsheet tries to approximate the actual costs of buying a home and compares it to renting.

There are a bunch of approximations in there and it got pretty complex over time so if you find an error please let me know so I can fix it.

Some guidelines

In general, I think owning a house is more expensive than people think. If you just look up loan rates you will only see the payments and not the total price of owning. If you play a bit with the timeline you will probably see that buying a home to live there for less than 5-10 years will be very expensive since the buying and selling costs will be a major contributing factor to the total costs. If you plan to stay for longer than 10 years then most likely the biggest factor will be the opportunity costs of all the cash you tie up into the house (if you, like me, believe that stock markets will perform far better than real estate appreciation long term). I think the calculator is a good way to check up on the costs for you so I will just provide some vague guidelines that I think you should follow when buying a house:

  1. View the purchase as a cost – not an investment. You can buy additional properties to rent out as investment, but you’ll do yourself a favor by only buying your home as a means to meet your need for shelter.
  2. Only buy if you plan to stay for 10 years. As a rule of thumb the transaction costs are too big otherwise. Also, getting locked in place can have a big opportunity cost career wise – I know I could certainly earn a LOT more if I could uproot and move across the country.
  3. Don’t go asking the bank “How much can I afford?”. They will want business so they will stretch your finances as much as they can while still minimizing risk of foreclosure. Instead ask yourself “How much do I really need?”.
  4. Don’t underestimate the risk. I’d advise going for a house that you can still pay if shit hits the fan. For me and my girlfriend that meant that we limited our search to homes where we could still make the payments if one of us had ZERO income. Sure, we both have unemployment insurance, but being conservative means we can sleep well at night even through a crisis. The same concept applies to variable rate mortgages. Feel free to use those as they often perform very well, but don’t take one that you can just about pay now and then watch your house get foreclosed if rates rise to 5%.

I hope to hear your input on this – I think the rent vs. buy discussion is very interesting and the more I read the more I keep finding great insights so I’m sure some of you can enlighten me as well. I’ll just link the spreadsheet again and invite you to go run the numbers for yourself and let me know what I can improve: Rent or buy?

12 thoughts on “Buy or rent?”

  1. Hi, I agree with you than in DK is more cheap to rent. However, making easy numbers: today I live with my family, so we need at least 90 m2 (2 adults, 2 kids). That means to rent an apartment/house for at least 10000kr. If I’m going to live in the same place for 15 years, this means 10000*12*15 = 1.8mil kr. So, I’m really close to the price of Rækkehus
    With these easy numbers is really difficult to resist the temptation of buying. Especially if you take into account the previous comments that, at the rates of today, the loans company (realkredit) are giving you money back!
    So, as it is today, a think that in DK, buying is a good way to save money.

    1. It is tempting to buy. Those 10,000*12*15 is purely principal repayment so when you move in 15 years you will be able to bring some money along with you. On the other hand it will be more expensive to live there since the 10,000 is just your principal repayments – on top of that you will pay interest, property taxes, utilities and maintenance. And then there is the opportunity costs, the closing costs and the movement costs.

      Still Aarhus is one of the few cities where houses might appreciate at a rate nearing stock market returns – unfortunately this means higher property taxes too. I know almost nothing about real-estate and can’t give good advice, but with your numbers it might be worth it – especially if you don’t move for 15 years as you say. I tried inputting some numbers in the calculator I made and it suggests that the total cost including opportunity costs at 7% growth should be equivalent of renting at around 11,000 kr. If you only expect 5% growth in stock then the equivalent rent is 10,000 kr. You can play around with it yourself but if you’d prefer to live there you should consider it since the premium you will be paying might only be around 1000 kr a month if you stay there for 15 years. If you pay 20% down on a 30-year fixed mortage, payments should only be around 5,600 kr a month post tax or on a 15-year fixed only around 9,300 kr.

    1. Hej DollarDave

      Godt at se at der er nogen der læser med 🙂 Jeg har svært ved at finde tiden mellem arbejde, kurser, og privatliv, men er så småt i gang. Jeg har lige for nylig lagt et ark op der beregner din skat ud fra en indkomstprofil. Den er ikke så spændende i sig selv, men jeg regner med at skulle bruge beregninger derfra i nogle af de næste artikler jeg lægger op. Du kan finde den under Calculators-menuen.

      Lige nu bakser jeg med at få et indlæg på plads om pensionsopsparinger. Mange hører anbefalinger om at spare ekstra op i deres ratepension, men jeg viser hvordan det ofte giver en marginalskat på over 60%. Det kan stadig svare sig i nogle tilfælde, men ikke så ofte som pensionsselskaberne gerne vil have os til at tro 🙂

      Mvh Asbjørn

      1. Det lyder godt 🙂 ja, vi er nogen stykker der tjekker siden hver dag for lidt ny spændende viden. Så please keep it coiming.

        1. Haha! Jeg gør selv det samme med hvor jeg også lige tjekker ind hver dag.

          Jeg har overvejet lidt om jeg skulle lave et forum, en chat eller en wiki så der er mulighed dels for lidt mindre opdateringer og dels for at I ikke skal vente på at jeg har noget færdigt hver gang. En wiki tænker jeg vi i fælleskab hurtigt kan udfylde med basal info om regler, priser, eksempler, formler mv. når vi alligevel researcher til eget forbrug. Et forum eller en chat vil gøre interaktionerne lidt lettere (i stedet for kommentarer her :)) og jeg har ikke fundet nogen af delene der henvender sig til brugere med interesse for FIRE i Danmark – selvom der er gode internationale fora på mrmoneymustache og earlyretirementextreme. Hvad tænker du?

          Jeg håber at kunne færdiggøre næste artikel om ratepension på mandag – før det kommer der nok desværre ikke mere content da jeg har planer hele weekenden.

          1. Hvad med et subreddit? /r/financialindependence og /r/personalfinance fungerer jo meget godt med FAQs i Wikis i sidebaren.

            1. Et subreddit ville være ideelt. Jeg tjekker selv /r/dkfinance dagligt og det har vi fået drejet mere over på FIRE på det sidste, så det er en mulighed. Alternativt har jeg oprettet et subreddit på /r/firedk hvis det er lettere at holde diskussionen mere koncentreret om FIRE, men jeg er lidt i tvivl om det er for lille en brugerbase.

  2. God artikel.

    Vil dog sige, at et lån kan hedge mod inflation. Forstået på den måde, at et lån på 4.000.000kr i dag ikke vil føles lige så hårdt at betale af om 10-20-30 år, hvor penge er mindre værd pga inflation.

    Jeg ser personligt prisen på boligejerskab som en form for forudbetalt husleje. Det er endnu et punkt i din beregning, som jeg ikke ved, om du medtager. Nemlig, at en husleje om 30 år kan være x% højere, mens det du har givet for en bolig forbliver konstant på trods af inflationen.

    Når det er sagt, synes jeg også, hus/lejlighedspriserne her i landet er alt for høje i forhold til mange andre steder. Det giver ingen mening. Men det er nok et spørgsmål om, at folk kan låne afdragsfrit, lav rente og variabel rente-lån.

    Samtidig er jeg så enig i din pointe med, at folk skal indse, at en bolig er en omkostning og ikke en investering. Altså med mindre man har flere hjem skal man jo have et sted at bo.

    1. Hej Frederik

      Gode pointer. Lån er som du siger en rigtig god inflationssikring. Med nuværende renter er der en vis chance for at inflationen langt overhaler rentebetalingen og så har man jo reelt lånt gratis. Det er da dejligt at vide om end man ikke nødvendigvis får penge i hånden af den grund.

      Jeg medtager faktisk i beregningen at huslejen stiger med inflationen. Man kunne godt argumentere for at have et separat input for huslejestigninger. På den ene side kunne man forestille sig at huslejen nærmere stiger i takt med prisstigningen i boliger og altså lidt over inflationen, på den anden side har vi stærke huslejebeskyttelser på alle boliger fra før 1992 som holder huslejen kunstigt nede. Men igen god pointe at huslejen i en vis forstand låses fast med et boligkøb – i hvert fald indtil ejendomsskatterne evt. ikke længere fastfryses. På den måde kan man se et boligkøb som en hedge mod huslejestigninger. Har man ingen ejet bolig er man naturligt short på boliger, har man én er man neutral (hedget mod stigninger) og har man flere er man long.

      Mvh Asbjørn

  3. Tak for en god artikel, det var meget spændende og læse om. Og specielt afprøve din udregner, jeg har testet den en del nu, og kunne ikke umiddelbart finde nogle fejl 🙂
    Jeg er selv ved at prøve at lave noget programmering, det kunne være sjovt hvis vi kunne lave en dansk udgave af NYT udregneren 🙂

    Det er en meget interessant diskussion synes jeg, som har betydning for alle mennesker selvom de fleste nok har som grundholdning at det er billigere at købe. Selv er jeg dog glad for at sidde i min lejelejlighed indtil jeg ved hvor jeg vil bo på den lange bane!

    1. Hej Daniel

      Super fedt at du har prøvet det af. Håbede netop du ville kigge det igennem 🙂

      Jeg tror at jeg på sigt vil lave noget med nogle webforms og så php til at regne og js tegne grafer. Jeg satser dog på lige at skrive 3-6 blogindlæg mere før jeg begynder at bruge en masse tid på at kode.

      Og ja i forhold til at leje eller købe synes jeg også det er super spændende selvom jeg sidder i saksen. For mig at se er det i rigtig mange tilfælde bedre at leje – hvis man har disciplinen til at investere forskellen. Boligejere er i Danmark tit i en bedre økonomisk situation end lejere, men jeg tror mest det handler om at boligejere har en tvungen opsparing i deres friværdi, mens lejere frit kan bruge alle deres penge hver måned.

      Godt at se dig og sig endelig til hvis du har forslag til noget jeg skal se på. Har selv en masse idéer, men det er også altid fedt med input.

      Mvh Asbjørn

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