Implied Rent as a consideration when deciding rent vs buy

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ace1400
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Joined: Thu Jun 20, 2013 1:28 pm

Implied Rent as a consideration when deciding rent vs buy

Post by ace1400 »

I'm currently renting a condo unit that I like very much and will likely want to live in this location long term. I have approached the owner about selling it and she is willing, however the price seems high to me. When I do a traditional rent vs. buy calculator (the NYT one is my favorite http://www.nytimes.com/interactive/2014 ... lator.html) it seems like it a pretty close to a wash. However, when I look as alternative investments it seems to make sense in this low yield, high tax environment.

When I look at the "yield" of the condo purchase, I calculate it as Rent - landlord paid expenses (taxes, HOA, maintenance etc) / purchase price. This implied rent is tax free and rises with inflation. So in purchasing the condo instead of renting it long term, I am getting what amounts to a tax free, inflation adjusted income stream - that is very safe (would only decrease in value if rents dropped significantly)

With my local/state/fed/Obamacare tax rate of >50%, and a $1200/month net rent (rent minus expenses including tax/HOA/Etc) I would need to get a pre-tax return of $28,800 ($1,200x12=14,400, $28,800x50%=$14,400) per year to pay my rent. This is not even considering the inherent inflation adjustment in owning the property. With the Vanguard Total Bond Market Index Fund Admiral Shares, the SEC yield is currently 1.97%. So to get that $28,800 per year, I would need $1,461,928 (28,800/0.0197). If I wanted the inflation protection - well the TIPS rates make the calculation ridiculous. I don't think comparing this sort of income stream to stock returns is a fair comparison. I have no additional tax advantaged space.

If I could buy the place for $500,000, why would I not do this? It's a 5.76% taxable equivalent yield with built-in inflation adjustment. Are there other financial factors I should be considering?
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cheese_breath
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Re: Implied Rent as a consideration when deciding rent vs bu

Post by cheese_breath »

ace1400 wrote: ...If I could buy the place for $500,000, why would I not do this?...
Is it worth $500,000? From your opening paragraph it seems you think it's overpriced. Have you done any comps against comparable properties? I'm not even going to think about all your other comments until we learn if it's fairly priced.
The surest way to know the future is when it becomes the past.
Topic Author
ace1400
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Joined: Thu Jun 20, 2013 1:28 pm

Re: Implied Rent as a consideration when deciding rent vs bu

Post by ace1400 »

cheese_breath wrote:
ace1400 wrote: ...If I could buy the place for $500,000, why would I not do this?...
Is it worth $500,000? From your opening paragraph it seems you think it's overpriced. Have you done any comps against comparable properties? I'm not even going to think about all your other comments until we learn if it's fairly priced.

It's a very nice building. Recent sales in the building appear to support the $500,000 sales price, it toward the upper end of the $/sq ft range for recent sales in the building. The most comparable recent sale on a similar floor was higher $/sqft, lower floor units have been lower $/sqft. No units are identical, so depending on how you adjust the comparable sales for floor, views, outdoor space, light, parking space location, floorplan, etc, it could be a little higher or lower. It is certainly within 10% of the correct price. It also definitely does not cash flow as a rental property. It is probably the nicest condo building in the area so sales outside the building are definitely lower.
DoubleClick
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Re: Implied Rent as a consideration when deciding rent vs bu

Post by DoubleClick »

ace1400 wrote:With my local/state/fed/Obamacare tax rate of >50%,
Is your marginal tax rate really >50% or is that just a manner of speaking? If the former (how?), this should be one years' earnings to you, or less. Which means that the computed yield is really such a small thing for such a short period of time that it doesn't matter much.
Topic Author
ace1400
Posts: 25
Joined: Thu Jun 20, 2013 1:28 pm

Re: Implied Rent as a consideration when deciding rent vs bu

Post by ace1400 »

DoubleClick wrote:
ace1400 wrote:With my local/state/fed/Obamacare tax rate of >50%,
Is your marginal tax rate really >50% or is that just a manner of speaking? If the former (how?), this should be one years' earnings to you, or less. Which means that the computed yield is really such a small thing for such a short period of time that it doesn't matter much.
Yes, it's really >50%. State+Local >10%, Federal 39.6%, Obamacare 3.8%. With state tax deduction phaseout etc, it is definitely above 50%.

I'm planning on being here for at least 2 decades. I'm not sure what you mean by "such a short period of time" as I will be locking in this yield on my $500K for a long time if I buy the place or pass on buying it and invest the money, so it is not a short time that it will be effecting my finances. While I can afford it, it represents a significant fraction of my net worth.

What I'm really asking is: I have a condo I'm going to either buy or continue to rent, and some money I can either buy it with or invest. Traditional calculators seem to say it's a wash, but if I buy it, I get the net rent free (and tax free), whereas if I invest in bonds I can pay only about a third of the net rent with the proceeds of the investment after taxes, and constantly lose ground to inflation. It makes buying look like a great deal. I haven't heard much discussion of this implied rent being a factor when making these decisions, and wondered if I was evaluating this all wrong.

Ace
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