Words on wealth: why it's better to buy than rent, but beware hidden costs

There’s an ongoing debate in financial circles: is renting a property more cost-effective in the long run than buying one? Online, you’ll come across arguments for either renting or buying, and it certainly depends on your personal circumstances, but I am of the conviction that, despite the drawbacks and hidden costs, paying off a bond on a property that you’ll eventually own wins hands down over renting over the long term. 

Renting

The pros:

• Renting a property is cheaper than paying a bond on a property of the same value.
• You do not have the responsibilities – and costs – of maintaining the property.
• You are generally not responsible for paying rates or insurance on the property. However, on a sectional-title property, you may be required to pay the sectional-title levy on top of your rent. You must also pay for water and electricity.
• You have the flexibility to move relatively painlessly to another home, without the costs incurred of selling and buying, subject to the terms of the lease.

The cons:

• Rent is an ongoing expense. Only if you invest the difference between what you pay in rent and what you’d pay on a bond would you be able to build wealth over the long term that may, if invested wisely, begin to equate with the equity you build in buying a property. However, if you are renting because it is cheaper than buying, which is the reason most people rent, it is unlikely you will have the wherewithal to do this.
• Rent is inflation-related, and typically increases each year.
• Renovating or improving your home does not pay, unless your landlord compensates you for the money spent.
• Your accommodation is subject to the landlord’s control – you may be forced out of your home on termination of the lease or on the sale of the property.

Buying

The pros:

• Each payment on your bond is a step towards owning the property, which itself should increase in value over time, subject to market conditions. During the first few years, you are mainly covering the interest charged, but with each payment you are slowly reducing the capital owed so that when the bond is paid up you can live “rent-free” – the bulk of your monthly accommodation costs disappear from your household budget – and you own a very substantial asset. When you reach an advanced age, this really matters.
• Your bond payments only increase if interest rates increase; they are not subject to an annual inflation-related hike as rent would be. Thus, in normal economic conditions, as your income increases, your bond repayment constitutes a reducing portion of your budget. As a bonus, interest rates may decrease, in which case you can pocket the difference or, more wisely, keep your repayments constant and pay off your bond faster.
• Putting extra money into your bond is an excellent way of saving. Your “investment” is risk-free, tax-free, and at a competitive interest rate. For example, if your bond is at the current prime rate of 10.25%, you are effectively making this return on any additional contributions on top of your scheduled repayments.
• The home is yours. You are free to renovate and make improvements, increasing its market value and enhancing the quality of your living space (subject to any restrictions imposed in a sectional-title complex).

The cons:

• You are responsible for all property-related costs, including maintenance, rates and insurance.
• Owning a property ties you down, which may not suit you if you are young and eager to explore the world.
• Because of the high costs of property transfers (see below), buying and selling too frequently can offset any financial advantages of owning. 
• A property is an illiquid asset – selling it may take months.
• While the property market is generally fairly stable, it is subject to economic downturns and shocks. In recent years, the residential market in South Africa has generally underperformed, although some areas have fared worse than others.
• On higher-value properties, you may be subject to capital gains tax when you sell (on a primary residence, the first R2 million of a gain is exempt), although you can offset anything spent on renovations.

Upfront costs to consider when buying

Ryan Lewarne, junior portfolio manager at Anchor Capital, says young people who are earning enough and have the financial discipline to commit to buying a home need to consider, apart from the property price, the extra upfront costs, which can be considerable. These include:

• Deposit: This should ideally be at least 10% of the asking price. “Some financial institutions provide 100% bonds to first-time buyers, but this depends on the affordability assessment conducted by the lender,” Lewarne says.
• Bond registration and conveyancing fees: The legal costs to register your bond and transfer the property into your name are substantial. Lewarne gives an example that on a R1.4m property with a R1.26m bond, the legal fees would total about R65 000, subject to negotiation.
• Deeds Office transfer and registration fees: In Lewarne’s example, it would cost about R3 000 to transfer the property and register the bond.
• Transfer duty: This is a tax levied on a sliding scale according to the property price. In this example, transfer duty would be about R5 700.
• Bank admin fees: The bank providing the bond would charge about R1 500 in administration charges in this example.

In addition to these fees related to the bond and the transfer, you may be required to take out credit life insurance to cover the bond should you not be able to pay due to death, disability or, in some cases, retrenchment, Lewarne says. He says you may also opt to undertake a home inspection, at between R2 000 and R5 000, to identify unforeseen issues with the property. 

Lewarne’s recommendations to first-time buyers are:

• Make sure you have a clear, detailed financial plan enabling you to save for the initial cash outflow required.
• Through an effective budget, you can ensure that you can cover costs over and above the monthly bond repayment.

* Hesse is the former editor of Personal Finance.

PERSONAL FINANCE