How to Create a Strong Financial Plan When You’re Renting Forever

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How to Create a Strong Financial Plan When You’re Renting Forever

Michael Rogers and his wife Christy commuted between Tennessee and Alaska, twice having to pay a mortgage and rent simultaneously. Once, in 2006, the situation dragged on for eight months and finally ended when they sold their Tennessee home for $20,000 less than they paid for it.

Other adventures as homeowners ended well – the couple doubled their money after selling a house in need of repair. Later, at another property, they had to shell out $30,000 to fix a landslide around their house – a mistake caused by the builder.

Two years ago, the Rogers moved to Kingsport in northeast Tennessee, where they signed a lease on an apartment they thought would be a one-year stopgap before buying something new.

The couple just renewed their lease for a third year and decided to remain permanent tenants. Mr. Rogers, a construction manager, appreciates the convenience of being able to move when work calls.

Whether by choice or because they've paid too much for it, many people have decided that renting is the best – or only – option for them. Housing costs and interest rates have risen in recent years, and renting can make financial sense. (The New York Times recently updated its popular rent-to-buy calculator to help people understand the pros and cons.) In the 1960s, the median home price was a little more than twice the median income. Today, it's nearly six times as much.

Owning a home is a traditional strategy for building long-term wealth. For people who don't plan to buy a home, creating a solid financial plan without building equity requires a different mindset.

Owning a home is not a panacea for securing retirement. Mr. Rogers has seen the impact of “house poverty” on older family members. One of them has three-quarters of her net worth tied up in her home. In this situation, people's only options are to borrow against the equity value of their home or sell the home to access the value it contains.

Instead, he focuses on investments and prefers the liquidity and stability of the stock market.

“When you buy something like a broad-based U.S. stock index, you're essentially buying a piece of the entire U.S. economy,” Rogers said. “When you buy a home, your risk is literally concentrated in one home, in one neighborhood, in one state.”

Mr. Rogers has found that people tend to look at home value more than other factors, and he believes that could be a mistake.

“In the current market, especially in my area, rent looks like an absolute bargain compared to current home sales prices,” he said. “That allows me to really increase my savings rate. People say, 'Well, you're not building equity.' Yes, but I have a 35 percent savings rate. I'm building investment accounts much faster than I could ever build equity in the house.”

As in any other market, it's impossible to predict future rents. Rents could drop like they did during the pandemic in New York City, or skyrocket like in Amazon-bloated Seattle. Real estate prices could collapse like they did during the Great Recession, or explode like they did in San Francisco. The key is to have a plan that covers you for different scenarios.

“Renting can be a better financial decision; owning can be a better financial decision,” said Ramit Sethi, author of “I Will Teach You to Be Rich.” “Too often we just buy because our parents told us to and their parents told them to.”

Despite being a millionaire, Mr. Sethi has spent the last 20 years renting in cities such as San Francisco, New York and Los Angeles. When he lived in Manhattan, he calculated that owning a home would have cost him 2.2 times more per month than renting. He stresses that the calculation also includes the phantom costs of mortgage interest, taxes and maintenance, which are often estimated at 1 to 3 percent of a home's value.

So he rented and focused on investing. He is a fan of index funds, target-date funds and any long-term, low-cost investment.

“If you decide to rent, there is one crucial thing that is the most important of all: you absolutely have to check your numbers,” said Mr Sethi, “and if it is cheaper to rent than to buy, you have to invest the difference.”

He also negotiates his rent, something he says many people aren't aware of. He recommends tenants look for comparable housing costs in their area, and if they find better deals, they should provide documentation at renewal.

“It doesn't always work,” he said. “When it does work, it's a huge advantage.”

Over the last century, the S&P 500 has returned an average of about 7 percent a year, adjusted for inflation. Mr. Sethi said most people have no idea what the stock market's return is. “But you need to know that number,” he said, “because it tells you what your opportunity cost is — in other words, how much you could make if you just put money into the market.”

Planning your finances while renting also has an emotional component. Mr Sethi said people should not feel guilty about renting.

“Remember, there are literally millions of people in America who rent and invest the difference,” he said. “You're not a nutcase just because you choose to rent. I do it, and a lot of other people do it, too.”

“People ask me all the time why I don't buy a house,” said Miranda Marquit, who is in her mid-40s and lives in Idaho Falls, Idaho. “People think it's weird.”

Ms. Marquit earns between $10,000 and $12,000 each month and has built an investment portfolio over the past 25 years and multiple income streams over the past 15 years. If you want to plan for a successful financial life without homeownership, she suggests starting with the retirement calculators on investor.gov.

“When I decide how much to invest each month, I'm very conservative and assume a 6 percent return,” she said. “I know a lot of people will say you should expect a much higher return, especially if you're investing in stocks, but I prefer to play it safe.”

You need to consider how much rent is likely to increase over time (Ms. Marquit uses an inflation-based estimate of 3 percent) to determine the amount you will need in retirement.

“To figure out if you're ready for retirement, you need to run the numbers, whether you're renting, have a mortgage or are building a rental empire,” she said. “Think about what you want to do in retirement and estimate your monthly needs. Then figure out how you're going to meet those monthly needs.”

“This is my life,” says Berna Anat, who lives in the San Francisco Bay Area. “I can't imagine owning my own home in the future.”

When someone says they're throwing money away on rent, she thinks of friends who own their own home. “They say, 'Oh, we can't go on vacation for two years because termites ate away at the foundation of our bathroom,' or, 'Yeah, we can't actually hang out this weekend because we're on our hands and knees tiling the mortar of our run-down sunroom,'” she says. “Renting forever is a movement. It's a lifestyle.”

However, this comes at a price: the theoretical equity that many plan to secure their retirement provision.

Ms. Anat, author of “Money Out Loud,” said replacing home equity with renting is about diversification and maximizing investments. If you're employed full-time, invest fully in your 401(k) plan and get as much of an employer match as possible, she said. Ms. Anat recommends opening another fund as well, such as a Roth retirement account.

“The idea is that if you don't have expenses like housing costs, closing costs, escrow accounts, property taxes” and fees like homeowners association fees, you're going to invest all that money to make your retirement as comfortable as possible because you're not going to have that equity,” she said.

“For me as a long-term tenant, all of these things are a given and I invest as aggressively as possible,” she said.

In the short term, Anat says, you also have to consider volatility in the real world. Rent could skyrocket or the building could be sold. She recommends having at least six months' emergency fund and a spreadsheet detailing your plan in case you lose your apartment.

“If you had to move out of your apartment tomorrow, what would be your concrete plan for your money and your life?” she said. “It's almost like an escape plan after an earthquake.”

Another consideration is your credit score: make sure it's good. Pay on time and try to keep the amount you owe low compared to your credit limit. The usual advice is to limit your borrowing to 30 percent of your credit limit; Ms. Anat tries to stay at 10 to 15 percent.

Maintaining a good credit score is crucial, she said, because “landlords are paying attention, and there's a greater chance you'll have to look at the market again next month or next year and impress a landlord.”

You also need to protect yourself by knowing the landlord's rights and the tenant's rights where you live, as they vary by city and state. Get renters insurance, which is usually affordable.

Overall, said Ms Anat, one must stabilize one's life with as much financial security as possible.

“It reminds me so much of being self-employed,” she said. “Being self-employed means you have to plan your own health insurance. You have to plan your own retirement. It's a little bit more about getting mentally prepared.”