Is it Better to Buy or Rent: How the 5% Rule Can Help You Decide (2024)

If you’re looking for new housing right now, you’re probably asking yourself–is it better to buy or rent? At the same time, if you’re looking to invest in real estate, it’s important to determine whether it’s a good time to buy. That said, using the 5% rule and other rules for real estate can help you decide. So, if you want to learn more about renting vs. buying and calculating housing costs, just keep reading.

Contents of This Article:

• Is It Better to Buy or Rent Real Estate? Pros and Cons
• What is the 5% Rule and How Can It Help You Decide?
• Is Now a Good Time to Buy? Outlook for 2023
• More Rules for Real Estate and How to Use Them
• Managing Your Rental Properties With BMG

Is It Better to Buy or Rent Real Estate? Pros and Cons

The question of whether it’s better to buy or rent real estate can be challenging to answer. After all, there are pros and cons to both options. For instance, some benefits of buying real estate are appreciation, tax write-offs, and fixed mortgage payments. At the same time, some of the cons of buying real estate include more financial demands and potential lifestyle changes.

On the other hand, there are some significant benefits to renting. For instance, you have fewer homeowner responsibilities, one simple monthly payment, and more opportunities to save cash. However, you may experience disadvantages like rising rental rates and less jurisdiction over the property.

Ultimately, it’s important to look at the current and future market to decide whether to buy or rent. So next, let’s go over the 5% rule and how it can help you determine if it’s a good time to buy or rent instead.

What is the 5% Rule and How Can It Help You Decide?

The 5% rule is a great way to determine if you’re ready to buy because it compares three costs that homeowners face that renters do not. The three expenses include property taxes, maintenance costs, and the cost of capital.

Keep in mind that the 5% rule was formulated by Ben Felix for the Canadian real estate market. However, it can work similarly in the United States. Here’s how it works:

• The first part of the 5% rule is Property Taxes, which are generally around 1% of the home’s value.
• The second part of the 5% rule is Maintenance Costs, which are also around 1% of the home’s value.
• Finally, the last part of the 5% rule is the Cost of Capital, which is assumed to be around 3% of the home’s value. Remember, your cost of capital is your cost of debt + the cost of equity.

When you add up the unrecoverable costs, they add up to around 5% of your home’s value. That said, the easiest way to put the 5% rule in practice is multiplying the value of a property by 5%, then dividing by 12.

Then, you get a breakeven point for what you’d pay each month, helping you decide whether it’s better to buy or rent. If the cost of owning a home is less than renting, you may want to consider purchasing a home. That said, if you’re interested in buying a home, let’s go over the market outlook for 2023.

Is Now a Good Time to Buy Real Estate? Outlook for 2023

Purchasing real estate is a huge financial decision. So, planning out your investment and researching the market is important to find the best deals and rates. That said, looking at today’s housing market, the conditions vary depending on location. However, it’s undeniable that mortgage rates are high everywhere.

That said, some investors are waiting for rates to drop, while others are capitalizing on investments now. After all, mortgage rates and home prices will likely remain high throughout the next year.

Additionally, while purchasing real estate, you must look at the inventory. For most of the year, we’ve experienced high demand and low supply, which is still the case. As such, it’s hard to be picky with your property if you’re looking to purchase real estate right now. However, waiting for better rates and prices isn’t guaranteed.

Ultimately, deciding whether it’s better to buy or rent real estate is pretty personal. If you’re having trouble deciding what’s best for your goals, use the 5% rule. Next, we’ll go over more rules for real estate and how they can help you invest.

More Rules for Real Estate and How to Use Them

If you’re looking to buy real estate, it’s important to ensure you’re getting the most from your purchase. That said, if you’re looking to earn returns on your investment, you’ll want to use these calculations and rules for real estate to calculate profitability.

• Rule of 72
• The 1% Rule
• Cash-on-Cash Return
• The 50% Rule
• The 10% Rule

Rule of 72

A unique rule of real estate is the rule of 72. This simple formula helps investors determine how long it will take for an investment to double in value based on the return rate. Simply divide 72 by the annual rate of return, then you’ll be left with an estimate of how many years it’ll take to double in value.

Although you can use online tools to find exact calculations, the rule of 72 is a quick way to do mental math and get estimates. However, keep in mind that it only works for investments with compound interest. Here’s how it works:

• Years to Double = 72/Annual Rate of Return
• Annual Rate of Return = 72/Years to Double

The 1% Rule

If you’re looking to purchase a profitable rental property, you’ll want to use the 1% rule. This rule is a reminder that the gross income of your investment should equal at least 1% of the original purchase price, including taxes and fees. Here’s a simple calculation for a property worth $155,000.

• $155,000 x 0.01 = $1,550

For instance, if you’re looking at an investment property that costs $155,000, you’ll want to find a loan with a monthly payment of $1,550 or less. Additionally, rental rates should be around the same rate to ensure profitability.

Cash-on-Cash Return

One of the most common rules for real estate is calculating cash-on-cash returns to determine total returns on your investment. It’s a simple calculation–to find your net yearly returns, subtract your operating expenses from your gross income. Here’s a simple explanation:

• Cash-on-Cash Return = Annual Net Cash Flow / Total Cash Invested

A good cash-on-cash return goal is around 8% to 12% if you’re looking to earn a profit. Remember that this doesn’t include additional expenses like mortgage payments or emergency repairs.

The 50% Rule

The 50% rule is another great and basic way to determine the profitability of your investment. To earn profits, you’ll want to save 50% of your income to cover property expenses. So, if you have a rental property earning $3,000 per month, you’ll want to save $1,500. Use this portion to cover the costs and the other half to pay your loan and put money in your pocket. Typical expenses include property marketing, maintenance, inspections, and more. However, with property management companies in Philadelphia, you don’t have to worry about these individual costs.

The 10% Rule

One helpful tool that can help investors buy real estate is the 10% rule, which is actually a set of three rules. If you’re looking to earn income from your properties, you’ll want to follow these three rules:

• Don’t Put More Than 10% Down- Although it’s not recommended for everyone, some seasoned investors use 10% of the investment price as a down payment.
• Buy at Least 10% Under Market Price- If you’re following the 10% rule, you’ll want to avoid properties priced higher than 10% under value.
• Never Pay Above 10% Mortgage Interest- Finally, if you’re paying higher rates than 10%, you’re potentially losing out on profits. Current average mortgage rates in the US are around 5% to 7%.

Managing Your Rental Properties With BMG

Determining whether it’s better to buy or rent can be difficult for those looking for new housing. However, using the 5% rule can help you decide if it’s a good time to buy. That said, if you’re interested in purchasing rental properties, use the rules for real estate to calculate the profitability of your investment.

When you own a rental business, you want to ensure your rentals and tenants are well taken care of. As such, one of the most important expenses to plan for is rental property management.

If you’re looking for property management, look no further than Bay Property Management Group. We offer comprehensive rental management for landlords near Baltimore, Philadelphia, Northern Virginia, and Washington, DC. Contact BMG today to learn more about our services.