There plenty of benefits of not owning a home
For as long as I can remember, home ownership has been a hot topic in Canada. In recent years, the conversation has been focussed on affordability (lack of it) and what this means for the next generation. Not only is it more difficult for a young person to have a place to call their own, there are also concerns that they are missing out on the wealth-building opportunity. But owning a home isn't always all it's cracked up to be and it certainly isn't the only way to build wealth.
The upside of renting
It’s hard to deny the fact that the prices of houses are so high in some cities that getting enough money together for a down payment on a $1-million house - which requires a minimum of 20% or $200,000 - is simply out of reach for many young people.
This can feel discouraging since home ownership is often seen as financial success and a great way to grow wealth. Although it’s true that owning a house in Canada has been good for a lot of people, there are also meaningful benefits of being a lifelong renter. For those who feel like they will never be able to buy a house, take heart from the upsides of renting, like:
1. You can earn similar returns investing in the stock market.
2. You will have fewer fixed financial obligations.
3. You can more easily diversify your assets and have more liquidity.
Home prices vs. stock market
You don’t have to be a homeowner to build wealth. It might feel like you’ve “missed out” on a hot housing market over the past several years, but there have been plenty of periods when home prices have risen at a slower rate than the stock market. In fact, over the long-term, the returns are very similar.*
Let’s look at some numbers to demonstrate.
In the 2010-2019 period, the Toronto housing market grew faster than the stock market, but not consistently so: in half of the years, the housing market performed better than the stock market and in half of the years, it performed worse. So even though it might feel like the housing market is always better, that’s simply not the case.
Source: Teranet, Yahoo Finance, Clarity
To give another example, since the start of the pandemic, both the housing market and the Canadian stock market have returned about the same: 6.7% per year for Toronto housing and 6.3% for Canadian stocks. With all the headlines around pandemic-driven house price increases, it didn’t feel that way but it’s a fact.
Over longer periods, the past 20 years, there’s not a huge difference between the gains in the stock market and in housing: Toronto housing rose by 6.7%, while the Canadian stock market up 5.7% and the U.S. market was up 6.6%.
My point in giving you all of this data is to say that the housing market hasn’t been the gold mine that people make it out to be. Or at least, it’s not the only gold mine – the stock market also builds wealth.
Inflexibility
Probably the scariest part of buying a home is the commitment. Your $800,000 mortgage equates to a $4,428 monthly mortgage payment at 4.5%. There’s no flexibility there.
And don’t forget all the other costs of buying and owning a home. They might look like this:
All of these annual costs (excluding land transfer tax, which you pay up front) add up to an additional $1,800 a month in housing expenses. As a new homeowner, you’d be facing a monthly, inflexible cash requirement of at least $5,700. Whoa!
The inflexibility of making mortgage payments is good in a way: it’s forced savings. As a renter, you might need to apply more self-discipline with your savings, but you certainly can build wealth. Without this big monthly housing commitment, you will have more money to put into savings. Let’s say you could invest the difference between the $5,700 your home-owning friend has to pay and your rent of $3,000. (I’m using a relatively high rent amount to make the living situations somewhat comparable.) If you put away this $1,700 difference every month for 25 years and you can earn a 6% annual return, you’ll have more than about $1.9-million. **
Imagine a couple in this situation: living together and sharing the rent cost means there’s a lot more to put away for retirement. Having $1,500 more per month to add to savings as a couple adds up to $2.9-million. Who says you can’t save for retirement if you don’t own a home?
As a renter, you will also have more flexibility. If something should happen – a job loss, a crisis – you can simply stop putting money into your savings for a few months. Not paying your mortgage and insurance? Not an option.
Diversify your investments and have more liquidity
For many people, life with a house is expensive, especially in bigger cities and when kids are thrown into the mix. As such, when people hit their 50s, they might not have a lot of savings: most of their money is in their home.
This isn’t necessarily a bad thing, except that it can limit one’s options in retirement. With limited savings, how will you pay your living expenses? If you have savings in stocks, bonds and cash instead of a house, you have almost total flexibility to access the money whenever you want.
House-heavy retirees also lack diversification. If 80% of their assets are in real estate, that’s a big bet. With cash savings you can diversify all kinds of ways - between different industries, countries, types of assets, and so on.
Yes, you can build wealth as a renter
Owning a home has been a good deal for a lot of people, it’s undeniable. However it’s not the be-all-and-end-all of building wealth and being financially stable. Putting money into savings rather than paying a mortgage and other house-related costs requires more self-discipline, but it can provide similar returns over the long run and gives you more flexibility and diversification.
* An important note here is that gains on a house that you live in are not taxable…ever. Gains you earn on investments outside of a TFSA are taxable. This does make a difference.
** The long-term stock market returns are more like 8% so this analysis is a little conservative.
Cover photo: Blake Wheeler, Unsplash