Market Conditions: Will Renting and Owning Ever Reach Parity in Chicago?
This question was posed to me by a reader and I thought it was a good topic to simply put out there to discuss over the long weekend.
I am looking to buy a condo in the south loop, and am currently renting an apartment in the same neighborhood. As most of your readers may be aware, there is an ample supply of new rental apartments in the area, and a similarly ample supply of new construction condos.
Here’s the problem: my current rent, in a luxury high-rise apartment, is $X/month. If someone was to buy one of the equally nice condos I am considering (finishes, view, location, size, amenities in my rental are similar in all respects) at list price and rent it out for $X, they would be losing a bundle each month. In fact, in order to be able to break even (not even cash flow – just tax+interest+assessments), they would have to buy the condo at a 40% discount.
I thought this massive rent/own imbalance was something reserved for bubble times in california, but when I asked the seller’s agent about it, his response was simply that that’s how it is. “You’ll always lose money (monthly) renting out a condo, but it is still a good investment, due to appreciation.”
Will renting and owning ever reach parity downtown?
What will happen with the imbalance: will rents rise or will prices fall?
And yes, there’s the other question- if you’re renting for 40% less than buying- why buy at all?
Believe me I’ve spent a ton of time thinking about this. I believe that there are three things that will keep renting a great option for the foreseeable future in Chicago:
1) The number 1 reason is that even assuming 3% home price appreciation you can also assume that rents will go up about 3% a year. Therefore, after some period of time (and you can check this with the NY Times rent vs. buy analysis linked from Cribchatter) the renter ends up paying more than it would have cost them if they had bought in the beginning. You have to figure in the savings from the 3% home price appreciation but you also have to figure in the cost of maintenance.
2) Chicago has this landlord culture where everyone thinks they want to be a landlord. Therefore, rents are depressed and home prices are inflated.
3) People are willing to pay a premium for owning a place that they can call their own and do what they want with.
Full disclosure: I have rented in Chicago for the past 9 years, realizing from the beginning that we were in a bubble. For the first 5 years everyone told me I was an idiot because in Chicago home prices had never gone down.
However, I have recently begun to look at various purchase options and actually have an offer in on a place as of 2 days ago.
Rereading my first point I think it needs further clarification. What I’m explaining there is why renting is a great option in the short run but may not be a great option in the long run. When people compare renting to owning they are usually doing it as a short term analysis.
tax benefits, appreciation, pride of ownership, control of your future….. these are good things, too….
Pride of ownership is worth a million dollars and the shame of foreclosure is worth about the same.
I can rent in a prime neighborhood with room mates for $400 a month, or buy in that same neighborhood, become a live-in landlord with the same room mates, and still have a monthly nut at least 4x as expensive. That will *never* be a better deal, regardless of the appreciation of the unit, tax benefits, or rent increases. And you’d get to deal with maintenance and hassles of ownership.
I’m the demographic that the $8000 first time home buyer tax credit is designed for, and I’m not even remotely interested in buying within the next 5 years.
1) Counting on 3% inflation a year is preposterous. Look into Tokyo real estate over the past 19 years if you want to see what happens after a gigantic property bubble.
2) If you saw the bubble coming 9 years ago you should have bought then and sold 3.5 years ago… You would have made a lot of money. You would have made a ton of money if you sold 2 years ago long after prices started heading south. Your argument just looks silly.
That being said. Not everything is overpriced in Chicago. I’ve been doing the math on a number of 2/2’s in the Gold Coast and some of them have reached rental cost parity. I think you’re making a big gamble buying at this time though with unemployment heading over 10% in the coming months.
>pride of ownership
I would think that more often than not (esp. in Chi), this is more the “illusion” of ownership. Do you really own something if you have less than 51% equity?
“but when I asked the seller’s agent about it, his response was simply that that’s how it is.”
Ahh the classic argument: thats just the way it is and things will always be the same. I’d ask the seller’s agent what timeframe they are using as a reference for that response. I suspect it wasn’t always this way.
Lets also not forget that “owning” is much of a status symbol among twenty somethings eager to fit into the classic molds of adulthood/increased responsibility. If anything the bubble taught us you don’t need financial sense or to be good at math to get a mortgage.
And lets not forget appreciation: during the bubble maybe it was okay if the unit didn’t cash flow. As typically there would be someone else to come along and bail out a homeowner come selling time in the form of increased appreciation that offset the increased monthly nut. No longer the case and that makes a huge difference.
In a few years owning will make sense but right now buying is like a personal bail out for some fb.
“I’m the demographic that the $8000 first time home buyer tax credit is designed for, and I’m not even remotely interested in buying within the next 5 years.”
Stephen most people aren’t as smart or patient as you, though. All our government is doing with the 8k credit and the FHA loans is temporarily propping up the low end of the housing market.
And the FHA is in trouble and will need a bailout within the next 18 months. Their business has literally exploded from under 3% of market share of new mortgages originated to 23% currently as they are the only ones giving out low downpayment loans other than the VA.
When the credit is removed that temporary uptick will disappear and then some as it pulled in demand. Same thing with the FHA loans: they can’t continue business as usual thats for sure.
Condos selling at rental equivalent prices, or less, in Chicago was the norm prior to the bubble.
The concept that a premium should be paid for owning a condo when interest rates are very low and abundant equivalent rental replacements are available is ludicrous.
It is also the definition of a speculative bubble because it implies that investors will also be paying those premiums.
The SL will overcorrect. Anyone who buys into the ownership premium for condos in an area with available rental replacements will be knife-catching.
“Stephen on September 4th, 2009 at 6:35 am
I can rent in a prime neighborhood with room mates for $400 a month, or buy in that same neighborhood, become a live-in landlord with the same room mates, and still have a monthly nut at least 4x as expensive. ”
You seem to have forgotten that you will be receiving the rents from the other three roommates. 8-|
Everyone always calculates the tax benefits, but no one ever calculates the opportunity cost of tying up your equity…
“Everyone always calculates the tax benefits, but no one ever calculates the opportunity cost of tying up your equity…”
You’re right. But, the problem is that it is almost impossible to know what your true opportunity cost is. If you bought two years ago, you probably would have assumed an opportunity cost of 7-10%, when it would have been -40% (unless you were long gold).
“1) Counting on 3% inflation a year is preposterous. Look into Tokyo real estate over the past 19 years if you want to see what happens after a gigantic property bubble.
2) If you saw the bubble coming 9 years ago you should have bought then and sold 3.5 years ago… You would have made a lot of money. You would have made a ton of money if you sold 2 years ago long after prices started heading south. Your argument just looks silly.”
1) Robert Shiller’s data shows that housing basically appreciates at the rate of inflation over the long haul. And our bubble has not been gigantic. In fact, based upon my regression of the Case Shiller index for Chicago we are almost at parity. Of course, we could undershoot.
2) You may know that you are in a bubble but there is no way to know how high a bubble is going to go or to know when it will pop. I have no idea what “argument” you think looks silly. There is no argument just a statement of fact.
I agree with Matt on the tied up equity part. There definitely has to be a cost analysis, but this downturn has made me far more fearful of the lack of mobility that comes from home ownership. Those who work a full career with one company will be rare. State and local governments can also tank a city or state with the wrong tax structure. Check out the article in the opinion section of the Wall Street Journal about Michigan today. I truly feel for the people who made a well intentioned invement to live the American dream and buy a home. I know far too many stories of people who cannot sell their home for what they have into it or the value has decreased precipitously and these people have lived in the homes for many years (pre 2000).
I do believe that going forward people will be much more aware of size and the opporating costs associated with size because one will likely not be able to justify apprecation as the reason for additional carrying costs. Also, college tuition costs continue to go through the roof and this also puts downward pressure on housing in my humble opinion.
it is always worth it for 2-flats and houses. Woo-hoo!
You won’t always lose money renting your condo out, it depends on downpayment and as time goes by your interest payments decrease. So, live in a place for 10 years, THEN rent it out and it might cashflow.
I didnt mean an opportunity cost of missed appreciation. I meant an opportunity cost of missed return on equity. I generally run numbers factoring in tax write-off, but also factoring in opportunity cost of tying up equity in an illiquid investment that pays no yield.
Whoa, where are all the kool-aid drinkers? Too much negativity here! I want to read that real estate only goes up, and that buying is a great investment!
When we bought a few months ago, I had to make sure it made sense from both a long term and short term perspective. My mortgage/assments/insurance for my three bedroom condo is about $200 more than I could rent it for. But my tax savings per month is probably $400 with an additional $400 going to pay down the principal of my mortage. Even if we dont gain any appreciation, I thought it still made sense if we stayed there for four or five years. Finding a low maintance building with low assesments is key. Putting 20% is what made it work and it helps that our rate was below 5%. I think a lot of the highrises are still way out of line, but some of the newer three flat or midrise buildings can make sense. Sure my equity is tied up, but i wasnt making any money on it anyways. 2% in savings or -30% in equity.
for gary,
is there actual data that shows that Chicago rent/ownership parity is always out of whack?
in any case, here is my two cents on the topic. you don’t purchase a 1 BR (i am assuming we are talking about a 1BR, but my arguments could hold for even 2 BR especially small one) above rent/own parity. i agree with gary’s case that over a long period of time assuming certain inflation (i’m not going to debate whether 3% is right or wrong) you could get benefits from ownership. however, my view of the world is a 1 BR is NEVER a long-term purchase. you will want to sell because of changing life conditions (marriage, kids, new job, etc.) or just want to trade up. ergo, i would never buy a 1BR above rent/own parity and perhaps even under rent/own parity. the better strategy is to save up for a down payment for a real place. i think in the SFH/3BR+ category, then you can debate about what to do and if there benefits of ownership (psychological and real).
At the condo I bought, I’m basically paying a 10% ownership premium. Places 10% larger than mine are renting for what I’m paying every month without taking into account the tax deduction, principal payments, or parking income that I get every month. I’d like to think I got a good deal, and I think I did.
just for clarification, i think most will never hold 1 BR for the 5-7 yrs (if not more) needed to justify purchase
“i think in the SFH/3BR+ category, then you can debate about what to do and if there benefits of ownership (psychological and real).”
Thats basically my strategy. And no I don’t want to hear the harpie screams that I’m one of those bitter renters who thinks I’m going to get a SFH in LP for 250k. No but maybe a nice SFH in a ‘hood off the beaten path for 450k in a few years. And I don’t need to live near these bars forever its not good for my longevity.
And one of the areas I’m closely looking at they’re considering pumping mucho government dollars to improve it. Bob the environmentalist? It would be harder to find stranger bedfellows.
A lot of 2/2s are actually quite close to rental parity if you only consider interest+tax+assessments. The other thing that hugely affects rental parity is the size of the down payment you’re willing to put down. I wouldn’t quite expect rental party at a 10% down payment, but 20-25% should get you there. Gary was actually my agent when I purchased a condo earlier this year, and I have a lot of respect for his analysis of the real estate market.
What about rents, are they moving up?
Seems to me that rents are artificially low at the moment due to all the condo-to-rental conversions in the area. Leases tend to run a year at a time, so as these buildings fill up (which they seem to be doing at a pretty good pace), one could imagine landlords quickly raising rents to achieve parity.
Perhaps we should expect 10-15%-a-year rent increases until the rent/own gap is filled, while condo prices stay put?
I was saying that your missed return on equity would have been -40% had you been invested in equities or almost any investment other than certain commodities.
To homedelete, the kool-aide mode is over. It has become highly transparent that residential real estate will not be in a rough spot for at least a few more years or until unemployment improves (not sure how much it needs to improve for a noticeable improvement in housing). In the mean time, the battle to mitigate losses on real estate continues to be grueling but the battle can be won.
Also remember some things when looking at rent parity:
1) If you have a traditional amortizing loan, you build equity over time via principal paydown (negligble in years 1-3 though). It is possible to significantly grow your equity stake even in a flat pricing environment. At a low cost of capital, mind you.
2) It is difficult to find renters at the price point many people buy. Most of the people who are able to shell out ~$1,200/mo on rent (about per person rent equivalent for a $450,000 condo w/ 15-20% down) are thinking or looking to buy.
I do agree though that the lower end of the market ($350,000 or less) should roughly in-line with tax-adjusted rent parity.
The main problem I’ve seen with housing is that too many households devote too large a percentage of their income to housing. Sure, they may qualify at 31% gross P&I only, but, when you add in taxes, insurance and assessments these same people are devoting 50% or more of their net income to housing. This is not sustainable and quite a few people are living on the edge. I spoke with someone yesterday with $320k in mortgages and an income of $60k. The total housing payment eats up most of the household income. This is not uncommon in Chicago.
Contrast that with rent. People rarely if ever rent a home that’s too expensive. Nobody says “my rent takes up 50% of my income” because that’s insanity. Yet when someone pays 50% of their income to their mortgage its considered a great investment and worth the sacrifice.
With regard to rent parity, there are deals to be had if you are patient. It took me 18 months and many offers to find a place, but the place I recently bought is very close to parity on a pre-tax basis. That’s not to say rents cannot decline over the next few years though…
Its been my observation that rents in Chicago, at least in the luxury segment, are fairly sticky.
When I moved here five years ago it was around $1,300 for a luxury 1-bedroom, and curiously enough it didn’t seem to matter on the neighborhood. Today thats still largely true.
MJ- I understand your point regarding 40% loss in equities… its also true that the exact opposite would be true over the last 6 months in the S&P. I actually am using cash flowing investment property as the basis for the opportunity cost comparison. It is reasonable to assume 5-7% cash on cash returns.
I’m living with family at the moment to save more money for a down payment. When I do buy a place, I plan to just live there forever. If I make a couple extra payments a year, I could be mortgage free in less than 20 years.
My grandpa has lived in the same condo for almost 40 years now. He just has to pay his assessments and property taxes. Rent would be a lot more for him and he migth struggle each month. Now, he’s just able to live in his condo without worrying.
I like the idea of staying in one place for a long time and saving lots of money. I prefer buying gadgets and taking trips to moving to bigger and bigger homes.
GLS,
Regarding data showing that Chicago is always out of whack. No, not really. In fact, there was a Crain’s article a while back that showed a chart going back to 2002 and it actually showed that there used to be a fairly narrow gap. I just reposted that graphic for you here:
http://blog.lucidrealty.com/2009/09/04/chicago-rent-vs-buy-gap/
Single data point.
I know a property in Old Town. One unit in a 3 unit building. Built in the boom 90s (bleh – cut face block on the side w/ brick front).
Full 2/2 1400sq. ft. one garage parking spot. Refi appraisal @ 400. Remaining
mortgage at 270k. ARM @ 4.875. Held for more than 8 years.
With all that said:
Mortgage ~1400
Assess ~200
Tax ~400
——-
2000 per month.
Currently renting for 2250.
Its possible. Its just not going to be easy.
chichow,
It does exist, most of the time the original purchase happened pre-bubble or very early into it. For most people that bought in the 1990’s owning is clearly more advantageous than renting; ask a 2003-2007 buyer and you’ll get a completely different answer.
MJ – “there are deals to be had if you are patient”
Jenny – “When I do buy a place, I plan to just live there forever”
Me too. I bought after looking for a long time. I was patient and had my money saved. I’m paying a bit more now for a SFH than I paid for my 1 bdrm apt. It needs some work but is comparable quality wise to my 1 bdrm apt. and I plan to be there forever (of course you never know what can happen).
With rent/owner parity as our guide, let’s wait until inflation hits and mortgage rates increase to 9, 10 or 11 percent… Now, that’s the time to buy!
“chichow on September 4th, 2009 at 9:15 am
Single data point.
I know a property in Old Town. One unit in a 3 unit building. Built in the boom 90s (bleh – cut face block on the side w/ brick front).
Full 2/2 1400sq. ft. one garage parking spot. Refi appraisal @ 400. Remaining
mortgage at 270k. ARM @ 4.875. Held for more than 8 years.
With all that said:
Mortgage ~1400
Assess ~200
Tax ~400
——-
2000 per month.
Currently renting for 2250.
Its possible. Its just not going to be easy.”
You are also forgetting that out the $1400 mtg payment, about $350 goes towards the principle. And the tax deduction at the end of the year for interest and tax should cancel out the opportunity cost for the down payment (if you had the money in a CD while you are renting)
Don’t forget that your investment is leveraged thanks to uncle sam so a 3% appreciation is actually a 15% return on your 20% downpayment. Of course as many have found out these last few years it works both ways…
Wow i missed some good debates.
to quote Bob “Lets also not forget that “owning” is much of a status symbol among twenty somethings eager to fit into the classic molds of adulthood/increased responsibility.”
i will admit that “classic molds of adulthood” was part of my decision, an emotional not a financial decision.
HD
I bought again at the peak 2007. Overpaid I’m sure. 3bd/3bath duplex down in Old town. Recent refi said value dropped 30-40k on a 700k + purchase purchase.
Ah well. Does it suck. Yeah.
Am I worried. Nah…as I have the cash and don’t plan on moving and may hold for 10+ years.
Sure equities have dropped 40% last year, but if you look over the long haul (20-30) years, it works out. I think (in general) it is the same for Real Estate.
And, no one has the crystal ball.
The bigger thing is that you have to be prepared to play the game. You need time, money, and roots.
People still buy brand new cars even though they are a horrible investment. Why is everyone obsessed with the value of a home going up or down, but they still waste tons of money buying new cars or leasing cars.
If everyone only cared about the ROI of a purchase, then everyone would drive a 15-year old Honda Civic. And never go on vacation, and never go to a restaurant, or go to a bar.
Brad, “Why is everyone obsessed with the value of a home going up or down”
the main reason is many home buyers would like the value to increase so the can “move up” to a better or bigger home.
that was my plan to get a bigger home in 7-10 years.
Not necessarily true, just bought a unit here are the specs.
$360,000
25% down
1000 in interest/month
450 taxes/month
450 condo fees/month
After tax deductibility of taxes and interest total cost approx. 1500/month
Unit in my building rents for $2200.
Owning saves 700 per month. Obvi not considering value of down payment in interest bearing account. But it makes sense in some situations.
“chichow on September 4th, 2009 at 9:15 am
Single data point.
I know a property in Old Town. One unit in a 3 unit building. Built in the boom 90s (bleh – cut face block on the side w/ brick front).
Full 2/2 1400sq. ft. one garage parking spot. Refi appraisal @ 400. Remaining
mortgage at 270k. ARM @ 4.875. Held for more than 8 years.
With all that said:
Mortgage ~1400
Assess ~200
Tax ~400
——-
2000 per month.
Currently renting for 2250.
Its possible. Its just not going to be easy.”
You are also forgetting that out the $1400 mtg payment, about $350 goes towards the principle. And the tax deduction at the end of the year for interest and tax should cancel out the opportunity cost for the down payment (if you had the money in a CD while you are renting)
I know I didn’t include the rest. I also didn’t include the assumptions for inflation and so on. And I didn’t include the down payment from before. I was trying to keep it easier. With less variables.
Thats a valid argument if you have equity in a low interest CD, I agree.
Rental parity will probably be out of wack for the larger units and I don’t think people buy those properties due to rental parity. I definitely think 1/1s should be pretty close to rental as the market is limited and the investment tends to be much shorter. Why pay a premium to live in the same place I can rent which is usually the case with 1/1s, I don’t think so much with 2/2s, 3/2s, and townhomes. Those tend to be HOMES as opposed to places people just crash.
Buying is a luxury and people will pay a premium to own. Whether it makes sense or not is up for debate, but life isn’t always about making sense. If that were the case no one would buy BMWs, Starbucks, Cubs tickets, or the infinite other things that we do that make ZERO financial sense but make us feel good.
I think what we are goign to see is the market realizing that not all properties are worth owning. We got away from owning being a priviledge and a long term decision to just any place that really should be a rental calling itself a condo (INVSCO properties). I think buyers are wising up and realizign if you are going to buy it needs to be a place worth buying, not a rental calling itself a condo – building, neighbors, finishes, etc all have to be at a certain standard.
But who knows. I am happy with my house, can afford the monthly nut and don’t see myself going anywhere for a long time.
Jenny, I assume if you are living with your parents you are young have the main of your adult life ahead of you. What about marriage, job transfers, children, etc? After living in the city for years after college, with the noise, traffic and expense, I couldn’t wait to get to suburban life to raise a family, at a much lower cost. Now we want back into the city, and there are tons of people — some with young families, some who are going broke, many are way under water and want to get out for reasons of survival. We have our pick of the litter on condos, but ironically,despite being a buyers market, they are still overpriced!
“Nobody says “my rent takes up 50% of my income” because that’s insanity.”
It’s been common in San Francisco for decades. Yeah, Chicago ain’t EsEff, but rent as 50%+ of net income (which is what you said) isn’t anything like genuinely unusual, even here, for “typical” people, rather than those in the top 10%.
“maybe a nice SFH in a ‘hood off the beaten path for 450k”
I think teh Groove might be interested in selling at that price.
groove would think he won the lotto if bob bought his place for 450k 🙂
I wanted to model what the rent vs. buy parity would be for a condo. Suppose I know a condo in Lincoln Park can rent for $2,400 per month or I could also buy it. Here is my rough rent vs. buy parity calculation:
Rent $2,400
Less: association and maintenance ($450)
Equals: after tax mortgage and tax equivalent of $1,950
Assume the blended marginal tax rate is 20% (assumes some portion is not tax deductible as these are principal repayments)
Equals: pre-tax mortgage equivalent of ~$2,400
Less: taxes of ($450) — or around $5,500 / yr
Equals: Mortgage equivalent of $2,000
At $2,000 mortgage (without taxes) and 20% downpayment @ 5%, I get an implied parity purchase price of $465,000 versus $2,400 in rent. Not assuming my equity opportunity cost is anything but at 1% interest rates in the bank I think that is a reasonably safe assumption.
Most of the condos in the area seem to trade at that level or below and the rental amounts are definitely in that range — so does this mean we’re at parity?
Thoughts?
What does it mean? According to Russ it means that condos are UNDERpriced in Lincoln Park because there should be a premium to own! Investors are going to snap all of them up just for the appreciation!
Buy now or be priced out forever!
“Kimo on September 4th, 2009 at 10:56 am:
Most of the condos in the area seem to trade at that level or below and the rental amounts are definitely in that range — so does this mean we’re at parity?
Thoughts?”
mocha on September 4th, 2009 at 6:20 am
tax benefits, appreciation, pride of ownership, control of your future….. these are good things, too….
“Control of your future” nothing could be further from the truth, home ownership reduces the ability to move to move where employment opportunities exist.
MJ on September 4th, 2009 at 8:43 am
I was saying that your missed return on equity would have been -40% had you been invested in equities or almost any investment other than certain commodities.
This is flat out silly, you are assuming the person bought into equities ONCE at the top. How much did you put down on your purchase 3.5%?
Let us make the opportunity cost on the calendar year 2009 or the date of your purchase.
I can’t believe the REIC (Real Estate Industrial Complex) still shrills crap like this. Everyday I see unfortunate buyers who bought into this crap and now they’re losing their homes. Today I saw a $285k Indymac refi mortgage originated in 2007 based on about $60k household income. Townhome on the far north side. won’t say where. Anyway the interest rate is 7.85%; 7 years IO fixed rate ARM, next three years are adjustable but still IO, then fully amortizing for the remaining 30 years.
This unfortunate buyer (now in dire straights) bought into the ‘buying is a luxury and should cost you more’ line of crap to his own detriment The only person who made any money was the broker and the title company. between them there was 9,000 in closing costs. “Pay more to own because it’s a luxury” that makes me upset.
“Buying is a luxury and people will pay a premium to own. Whether it makes sense or not is up for debate, but life isn’t always about making sense. If that were the case no one would buy BMWs, Starbucks, Cubs tickets, or the infinite other things that we do that make ZERO financial sense but make us feel good.”
HD: People generally will pay a premium to own their own place because they usually purchase a place that is nicer than what they would rent. A lot of people rent 1 bedrooms but purchase 2 or 3 bedrooms. A lot of people rent craptastic 2 bedroom vintage units with roommates that haven’t been updated since the 70s in LP/LV but buy a newly renovated 2/2 or townhome.
I think the behavior of buyers, in particularly DINKS, in large cities is not entirely reflected in the stats. I freely admit that I am biased based on the clients I see on a daily basis, but the larger market could be different.
I have no idea if condos in LP or over priced or underpriced. I can tell you from the several dozen refi’s that I have closed there this year, most have appraised out ok although there have been a few that have seen some precipitous drops in value relative to the purchase price.
Just because you deal with idiots on a daily basis HD, doesn’t mean real estate is overpriced.
Kimo, you are ignoring the current low interest rates. They will not likely be around forever and guaranty price declines as rates rise. The time to sell is when rates are low, the time to buy is when they are high.
Value declines are inevitable down the road when rates increase. Your down payment will go further as well. Definitely not a problem if you stay (NOT “plan to stay”) for 30 years.
Gary, I am curious if your regression of CS for Chicago started at the 100.0 base in 2000? Bubble pricing was already underway at that time so inflationary increases based on that number will overstate where the current trendline “should” be.
Problem is, Russ, those renovated and new 2/2s and THs ARE available as much cheaper rentals. As long as equivalent rentals are available for less than purchasing it makes no financial sense to buy.
Sonies: the large number of idiots who bought during the boom made your condo significantly more expensive than it otherwise should have been.
Russ, thank you for clarifying. Owning costs more than renting because you get more. That makes sense. The owning premuim for its own sake is ridiculous.
“Sonies: the large number of idiots who bought during the boom made your condo significantly more expensive than it otherwise should have been. ”
How many people that live in my hood are filing BK on a weekly basis? Probably nowhere near the amount as in the outskirts of the city, which was, uber oberpriced, and has fallen significantly because of that.
http://www.realtytrac.com/MapSearch/MapSearch/MapSearch.aspx?address=60611#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
303 Bank owned properties in 60611. I’d say there are probably more idiots per sq mile in the RN gold coast SV area than anywhere else in the city. But no those properties won’t affect prices in your building.
I was looking for the BK stats but I cannot find the site right now. I’ll keep looking.
“303 Bank owned properties in 60611. I’d say there are probably more idiots per sq mile in the RN gold coast SV area than anywhere else in the city. ”
Not surprising since you very well know, they are the two densest areas of the city in terms of population. I await your BK stats!
I think the debate should also include more big risk analysis. Summing up a rent vs own sreadsheet just spits out one flat price number without including the big upside or downside of both scenarios. A true comparison should really yield a variety of probabilities and your decision should be based on whether or not you can sustain or tolerate all those possibilities. During the bubble, the risk of renting was that you didn’t capture huge appreciation on a tiny down payment. During that period, cash flow analysis was just a tiny part of the puzzle. During the crash, the real risk is owning a leveraged, declinging asset and taking a huge loss on a small initial investment. My broad advice would be that the 5-10 year effect of owning will be based more on the overall performance of the market and less on the current cash flow. If you are currently renting and are considering buying, I would only do it if you’re also looking at the big risk/reward.
I’m actively looking to buy with a trader’s perspective. If I can buy a cheap asset for 20 percent under what I think it is CURRENTLY worth because someone else needs to blast out of their position, then I’ll buy. But I won’t buy a property to save $100 a month on cash flow.
Another way to put it, cash flow analysis is based on your best guess assumptions and varies wildly from person to person based on tax rates, marrital status (because you get double the lifetime tax free long term gain), future income, a guess at what the tied up capital would otherwise be doing, yadda yadda. I think you’ll find five years from now that -as a renter-if the market goes up and you’re friends are making a tax free killing on their flips, you messed up by renting. If in 5 years the market is stil depressed and people are still taking losses, you’ll be laughing and in the chips. So the real question is qhat’s going to happen to house prices in the next 5-10 years?
“”Kimo on September 4th, 2009 at 10:56 am
I wanted to model what the rent vs. buy parity would be for a condo. Suppose I know a condo in Lincoln Park can rent for $2,400 per month or I could also buy it. Here is my rough rent vs. buy parity calculation:
Rent $2,400
Less: association and maintenance ($450)
Equals: after tax mortgage and tax equivalent of $1,950
Assume the blended marginal tax rate is 20% (assumes some portion is not tax deductible as these are principal repayments)
Equals: pre-tax mortgage equivalent of ~$2,400
Less: taxes of ($450) — or around $5,500 / yr
Equals: Mortgage equivalent of $2,000
At $2,000 mortgage (without taxes) and 20% downpayment @ 5%, I get an implied parity purchase price of $465,000 versus $2,400 in rent. Not assuming my equity opportunity cost is anything but at 1% interest rates in the bank I think that is a reasonably safe assumption.
Most of the condos in the area seem to trade at that level or below and the rental amounts are definitely in that range — so does this mean we’re at parity?
Thoughts?…”
Yeah…. Kimo does not date much….
“If in 5 years the market is stil depressed and people are still taking losses, you’ll be laughing and in the chips. So the real question is qhat’s going to happen to house prices in the next 5-10 years?”
up
check this scenario out
a 2 flat conversion to SFH,
bought in Summer for 150K, 100K in renovations and living in it by winter.
i dunno what a SFH rents for in IP, but its not bad imo.
to clarify my comment, a few commenters on here bought places this past year, some bought even if their position a year ago was that of caution or uninterested, to answer the question is it will vary and may or may not converge (rent to own parity), my bet is it won’t. Buy when it makes sense to you.
I’d by the grooves double lot house, just don’t have that kind of money. 🙁
Anybody that bought a cash flow property that past year say O-yeaa’er .
G,
I started my regression in the late 80s and ran it for the flat part of the curve. The value was around 70ish.
“Gary, I am curious if your regression of CS for Chicago started at the 100.0 base in 2000? Bubble pricing was already underway at that time so inflationary increases based on that number will overstate where the current trendline “should” be.”
On another note, there are a number of interesting comments here on how people choose to spend their money and the lack of financial rationality. My $.02: Most people spend too much money on everything and it totally lacks financial rationality. None of it makes them any happier. But I do believe that cash makes you happier – it buys independence. Live below your means.
Gary, the late 80’s was the last bubble here. You might want to look at that from various other years before and after for comparison.
G,
The data doesn’t go back any farther than January 1987. If you look at the chart it’s pretty straight from 1988 to 1999.
Interesting discussion guys.
My hubby and I rent because
1) we’re most likely moving away from Chicago in the next 3 years.
2) we looked at a few condos a couple of years ago but prices were ridiculously inflated for what we wanted where we wanted. Then, it was far cheaper to rent.
I still feel *bad* that I don’t own – its both a status thing and an emotional/social thing because we feel like, at our ages (upper 30’s) we should have the kind of financial stability that allows us to purchase. But every time we look at all the variables, it just doesn’t make sense.
As for rent/buy parity, man the market is just so screwy right now. I think if you’re looking at older highrises in GC or LP where the neighborhoods are established and strong condo associations have put tight caps on the # of rentals allowed in condo buildings then you see higher rental prices and reasonable purchase prices – so you’re likely to get parity. In the new/over developed SL, Streeter, WL where you have new construction with sellers who purchased at bubble prices trying to recoup costs, no or high rental caps and lots of competition its definitely cheaper to rent.
I have noticed that this year I seldom hear “Who pays that in rent? For that price I’d buy!” Used to hear that all the time, now, never.
Don’t feel bad about renting. You would feel even worse if you were underwater and unable to sell. Prices are still ridiculously inflated in most areas you or I would like to live. The rent or own dilemma will make a lot more sense next year and even more so the year after that.
“I still feel *bad* that I don’t own – its both a status thing and an emotional/social thing because we feel like, at our ages (upper 30’s) we should have the kind of financial stability that allows us to purchase. But every time we look at all the variables, it just doesn’t make sense.”
Very interesting topic that ive been thinking about lately as a potential renter and buyer. Inevitably rents and prices will fall with the amount of supply on the market. There is a hangover of approx 5500 new const condos sitting on the mkt where the banks/developers have not yet reduced prices to a market clearing level and they are not yet willing to reduce rents to a level that attracts new renters. i recently checked out Roosevelt Collection and what a joke! They want nearly 2k for a 1br incl parking in the south loop.
Great speech by Peter Schiff on the RE bubble for those interested:
http://www.youtube.com/watch?v=EgMclXX5msc
Anybody who denies that there was a RE bubble and we’re still correcting is either vested in the market or living in fantasy land.
Does anyone deny that there was a RE bubble? I mean, other than those who would quibble about the term and say, e.g., that there was a “x-bubble” with x being whatever they determine to be the actual cause of inflated RE values.
Our government continues to deny it with their misguided policies aimed at “propping up” housing valuations at great expense to taxpayers.
Well, one can accept that RE values were (are) artificially inflated without agreement on the best course of action, given that fact. Especially when there are different, conflicting interests (both political and economic) at play. Yes, taxpayers will suffer certain consequences of government actions to cushion the fall of housing prices, but many of those same taxpayers (and political constituents) would suffer certain consequences of a more rapid correction. Let’s not pretend there are ideal solutions that don’t entail serious trade-offs.
I agree with russ:
russ on September 4th, 2009 at 11:23 am
HD: People generally will pay a premium to own their own place because they usually purchase a place that is nicer than what they would rent. A lot of people rent 1 bedrooms but purchase 2 or 3 bedrooms. A lot of people rent craptastic 2 bedroom vintage units with roommates that haven’t been updated since the 70s in LP/LV but buy a newly renovated 2/2 or townhome.
Most people rent the minimum amount of space they need, but will purchase the space they want. We are willing to live with an outdated kitchen with apartment-sized appliances when we rent, but we want full-sized appliances, better-quality cabinets and a nice floor when we buy.
There are two components to the rent-vs-buy decision and the interplay of those components varies with each situation. There is the financial component – is the purchase affordable, where is it with respect to renting the same space, what is the final after-tax cash flow? Then there’s the emotional component – pride of ownership, the ability to customize. Because everyone has different things going on in their life, it is misleading that one or the other factor is the reason for the decision to rent or purchase.
sorry – forgot to put quotes in russ’s comment. The last two paragraphs are my comments.
I think this analysis needs to be building specific at some level. Are you going to purchase a 1/1.5 in Trump for 650,000 with $900 a month assessments or will you just rent it for 2,600 a month? And do not forget to include all of the closing costs /attorney fees/transfer taxes in your analysis. And the thought of being able to customize the unit if overated. How many units do you see that have plain white walls and the people have been there for 5 or more years? Put up some great art work in a great condo rental and be a proud renter with extra cash in your pocket.
I have not had the opportunity to read all 83 comments, but believe there are several short- and long-term factors that will greatly benefit buyers given current market conditions:
1.) The limited time $8,000 tax credit. For a $250,000 home, that’s 3.2% of the purchase price.
2.) Inflation benefits the owner and penalizes the renter. Due to the amount of cash the government has pumped into the economy with no clear way to mop-up the excess liquidity, most analysts expect increased inflation in the long term. If you have a 30-year fixed rate mortgage, you are paying the bank back with inflated dollars and pocketing the difference (assuming your pay rises with the inflation rate). Renters always pay in current dollars.
3.) The tax benefits.
4.) The case-schiller index is more closely matching the CPI, which has been the long term trend. If you believe the trend, the Chicago market has reached or is close to reaching the point of full correction . . . the discounts won’t last forever.
5.) If you believe #4 and assume your equity on a new purchase will not be eroded, even if there is no (or minimal) appreciation, every month you pay your mortgage, you build more equity.
I bought in a 2/1 in Logan Square in September of 2008. The building sold out in 2 months. Other owners have recently refinanced, and the appraisals are coming in with higher values than they paid. It seems that the developer was smart in my case – he left some money on the table, but sold all of the units before his competitors in the market.
ahhh… Full disclosure, I am not a agent.
1. Buying now is catching a knife, if you are lucky you may have a finger or two left. If you look at the historic price to income ratios, we are no where near the bottom. However, everyone tries to confuse that with details, however noone in this economy can afford to pour as much into their houses as the banks let people sign away during the bubble.
2. If you think taxes and insurance are staying the same over time you are kidding yourself.
3. Equity is an illusion.
4. A house you cannot sell is an anchor, I am looking at a job in another city and one of the questions that was posed to me today was, do you own your house?? Code for, if you do we ain’t taking the hit.
5. Property is a liability not an investment.
I rent in a great neighborhood, not as great a place as I would if I owned for 1300 a month. My “adult” friends taxes and insurance are higher, and they all bought and have watched their equity go negative. So if you currently rent and are reading this BLOG, do some serious thinking before you consider buying. Everything the real estate guru’s said, small and large is pretty much wrong. And figure out what side of the equation someone is on before you take their advice. Misery loves company.
4. “The case-schiller index is more closely matching the CPI, which has been the long term trend. If you believe the trend, the Chicago market has reached or is close to reaching the point of full correction . . . the discounts won’t last forever.
5.) If you believe #4 and assume your equity on a new purchase will not be eroded, even if there is no (or minimal) appreciation, every month you pay your mortgage, you build more equity.”
I don’t believe #4 and you have no data to support that statement.
How does it feel knowing that your tax credit was only $7500 that you must repay over time yet someone purchasing today receives an $8000 tax credit that does not need to be repaid?
OK so a handful of homes sold at record low prices this summer but 90% of MLS listings remain overpriced and languishing…does that mean the market is in? Maybe….does it mean that things will return to ‘normal’? No, not by a long shot. Only when a majority of overpriced homes actually sell instead of languishing for months, and often years, will the market be normal. Until then, keep your powder dry and be patient.
sorry, i meant does that mean the bottom is in? maybe…
Bill,
“1. Buying now is catching a knife, if you are lucky you may have a finger or two left. If you look a..”
So explain how somebody can buy properties and generate cash flow. in this market.
renting to people gaining/gainfully employed in Chicago! Isn’t Chicago great!
—
HD, I am glad your coming around on your ’99 or bust argument, but i like to reiterate, your financial philosophy or buying decision is fine; you valuation/expectation of prices/quality of house that what I am debating. Everybody will buy when their ready, I just argue that its a good enough time as any, w/ w/o regard to future interest rate or other unforeseen ramifications.
—
That’s my president! 🙂
—
bob stop being mean (8k/vs 7.5K loan), I could have been in that boat, my good timing.
would you like it if somebody laughed at your eventual purchase. esp. if you bought at it was clearly not at the bottom. meaning you overpaid.
anyways your ridiculing somebody that is not underwater and still bought at the ‘bottom’. So they are better than you, right?.
For me, owning is worth paying a bit more because I want to live in a space that I love looking at. I could get that as a renter, but my options are limited:
1) Pay for a rental in one of a few new buildings that have high-end finishes in a ‘hood like the South Loop or River North. However, rentals in these areas with hardwood floors and great kitchens and baths don’t seem like a great bargain from what I’ve seen.
2) Find a landlord who doesn’t mind me redoing a kitchen and/or bath to at least make it the best it can be on a budget. (Ideally, the landlord would agree to pay for some or all of the cost, but then I run the risk that he/she will jack up the rent as soon as it’s time to renew the lease.)
When I start looking for a rental, I’m seriously considering bringing pictures of other places I’ve renovated in the hopes that someone will like what I’ve done and will think any work I do on their outdated place will be an improvement. I just don’t know how realistic it is that I’ll find someone willing to let me do that. Plus, as someone who enjoys living in a fixer upper, I think part of me will never really be happy in a rental. But after my latest attempt to appeal my property tax assessment, I’m definitely open to the possibility of letting someone else deal with the cook county assessor forever.
what did you get from them, I think my discount is like 25%.
“us, as someone who enjoys living in a fixer upper, I think part of me will never really be happy in a rental. But after my latest attempt to appeal my property tax assessment, I’m definitely open to the possibility of letting someone else deal with the cook county assessor forever.”
Mine went down by 7 or 8% from last year, and that’s the first time it has gone down. However, the sales in my building over the last year or so have been about 25% less than what I paid.
“would you like it if somebody laughed at your eventual purchase. esp. if you bought at it was clearly not at the bottom. meaning you overpaid.”
Its always a risk. I just think early in this correction will have the most risk as I see a trough. I don’t see a V-shaped bottom as Logan Squaran was insinuating with their “discounts won’t last forever” line of logic. I see several more years of much less rapid depreciation overall, with bumps along the way in pricing in the summer. I don’t think I can time the bottom perfectly but I do think with all this government intervention is just delaying the market from finding a true equilibrium, stretching out the pain.
Bob –
In regards to #4 – the evidence is there. Plot the CPI against the Case-Shiller Index and look at the historical trend compared to the bubble period. You will see that the two indicies are almost back in-line. There is a good likelihood that the market will over correct, but you have to balance the market against life priorities (i.e., where you are professionally, family-wise, etc.).
You may not get the best “bottom of the market” deal, but it certainly won’t be bad and you will def. be better off than anyone who bought in the past five years.
In my case, I couldn’t find a well located, quality one bedroom that I liked that rented for less than $1,000 or $1,200/ mo. So, I bought a two bedroom condo with highend finishes. P&I, T&I, after the income tax discount, comes to about $1,250. Insurance and taxes will probably track inflation, but P&I will remain flat. The first year was more expensive than renting, but that will likely reverse in the next few years.
On a current pay basis, I def made the right decision. The larger question is: was there a better investment at the time for my down payment? Appraisals in my building are showing higher values than the purchase prices – so, I assume that I have no loss. In the one year period since my purchase, the DOW is down 15.6%. I could have done nothing and earned, at best, 2% interest on a CD, which, after taxes would have been about $600 (big deal . . .). Measured against my interest free loan from the government, and the resulting arbitrage opportunity, I still come out ahead.
Based on a long term outlook, I think I will benefit from buying(compared to renting and other investment opportunities). If I had waited a year and held my down payment money, I would have been in an even better position; however, the market and my life priorities just happened to align at that point.
There are deals but they are few and far between. More deals will come to those who are patient. FB sellers will win the price standoff against only the imprudent and inpatient. Fortunately the tax credit peroid is their last chance to seller to a greater fool. It will be a long and cold winter.
Come on HD, you know the big gov is going to extend that tax credit through next year too
I’m a little late here, but
1) IMO rents have fallen off a cliff in the last month. I have 2 units for rent in a season that is normally good for rental. I have not had a call in 2 weeks. I confirmed this with friend with 100+ units. She said she has never experienced such a slow market. IMO the economic fallout of the recession on real estate is not abating but intensifying. The rent/buy dynamic will skew even more to “rent” in the next couple of years.
2) As a CPA I think people miscalculate the tax benefit of interest and property taxes. They multiply by the marginal rate of say, 28%. Few people have Schedule A deductions other than property tax and interest. They should use the 28% rate after deducting the standard deduction. I have no mortgage, low taxes and I still get the $10,900 standard deduction.
DBA
“2) As a CPA I think people miscalculate the tax benefit of interest and property taxes. They multiply by the marginal rate of say, 28%. Few people have Schedule A deductions other than property tax and interest. They should use the 28% rate after deducting the standard deduction. I have no mortgage, low taxes and I still get the $10,900 standard deduction.”
Yes this is way too common on this blog. Wouldn’t you also deduct your state income tax though also? Or is there a restriction on that? Would have to add that to your new tax savings if you started itemizing.
Oh, and by the way, renting is only for bitter losers who can’t afford to buy. Renters should be ashamed of themselves for trying to save a buck. Don’t they know how important pride of ownership is? Don’t they know about the tax deductions?
“Few people have Schedule A deductions other than property tax and interest.”
I’ve never heard of ANYone who only has property tax and mortgage interest deductions. Is everyone you know really that tight, that they make $0 in charitable contributions? And, as DC pointed out, everyone who pays any income tax in Illinois, also has state income tax to deduct, when they itemize.
“Come on HD, you know the big gov is going to extend that tax credit through next year too”
As much as this disgusts me I expect this announcement (extension of 8k credit) any day now. They will try to frame the context as: “if we don’t extend this it will hurt the housing market” and get the mainstream media to play along.
“1) IMO rents have fallen off a cliff in the last month. I have 2 units for rent in a season that is normally good for rental. I have not had a call in 2 weeks. I confirmed this with friend with 100+ units. She said she has never experienced such a slow market. IMO the economic fallout of the recession on real estate is not abating but intensifying. The rent/buy dynamic will skew even more to “rent” in the next couple of years.”
Thanks for the information. I’ve been hearing similar stories- especially with respect to rentals above $2000 a month.
Everyone who can’t sell at the price they want thinks they can become a landlord and wait for the market to turn around.