Renting or buying a residential property

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It is a basic human need to have a home. Many people dream of owning a home but few people understand the property world. On this article we will share with you some of the things we are learning about the properties in South Africa. We hope this will help you to decide what you think is best for you between renting or buying a residential property using a home loan.

Relevant articles:

• A closer look on how to invest in property
• First time investing – how and what to invest in

Key takeaways from this article:

• Understanding the costs involved in buying properties
• Comparison of renting or buying a residential property using a home loan

Basics of a residential property

If you buy a residential property, you are buying the land and the building. The property may be apartments or stand alone houses.

In case of flats and apartments, many owners can jointly own the building or a complex. This is referred to as sectional title ownership. As an owner, you only have full control of the units you own on the complex. The board corporate will manage all the properties in the complex. So the owner will pay levies to the board corporate. The levies are for the upkeep of the complex shared facilities.

Land appreciates in value but buildings can depreciate. As a result of this, sometimes residential properties appreciates in value and it may take time until they start to depreciate. The advantage of owning a property is that its value can be restored through regular maintenance.

Initial costs of buying a residential property

The initial costs are categorized into about 3 major categories which are bond registration costs, transfer costs and loan initiation costs. The lawyer costs and transfer duty are also included in the categories outlined above.

According to Private Properties, you need to save about 8 – 10% of the property value to cover these initial costs.

It is worth noting that the transfer duty for properties with purchase price less than R 1 million is currently zero in the tax year 2021. This pushes the total initial costs down.

The good news is that if you buy properties from the developer, you can cut down these initial costs because you can avoid paying transfer costs.

Comparing renting vs buying using a home loan

Is it better to rent a house or buy your own apartment? There are merits and demerits on each side.

Why renting?

The advantage of renting a house is that there is flexibility in changing the place to stay if you get tired of your neighborhood or if your work place has changed. You can simply give an evacuation notice and move out.

Additionally, when you are a tenant you do not need to commit to any future payments. Therefore, you can easily decide to cut your rental costs by downgrading to a cheaper house fast.

Why owning?

However, it may be more rewarding to be an owner than a tenant. As an owner, you have full control of your house in the case of stand alone houses but the ownership is to a large extend limited in a sectional title ownership.

Another advantage of being an owner is that you can generate income using your house by renting it out. A rental property is an attractive form of investment for those who want to reach financial freedom early.

As an owner you can leave behind your properties as inheritance.

What are the numbers saying?

Practical example

We will consider a 1 bedroom apartment in Gauteng region with a purchase price of R 580k. The rental for similar apartments in the complex is R 5 800. The levies and rates (sewerage disposal and refuse removal) are R 700 and R 500 respectively.

Assumptions

• The interest rate on the bond is 7% (the same as prime rate).
• Term of the home loan is 20 years.
• Total bond registration costs are R 16 702.
• Total transfer costs R 16 739.
• Home loan initiation fees are R 7 000.
• Monthly administration fees are R 69.
• Depreciation in the 20 year period is 10% (equivalent to the maintenance costs).
• Rent, levies and admin fees will remain constant.

Option A: Buying a house using a home loan with zero deposit

Total payments per month are R 5 697, that is:

• Bond monthly payments R 4 497
• Levies + Rates R 1 200

Total initial costs of the loan are R 40 510, that is a total of transfer costs, bond registration costs, home loan initiation costs and administration fees.

In 20 years time the total costs will be R 1 424 286 split as follows:

• Bond Repayments (inclusive of interest) R 1 079 216
• Levies and rates R 288 000
• Total administration fees R 16 560
• Total initial costs R 40 510

In addition, we assume property value will depreciate by 10% to account for maintenance costs. Therefore the price of the same property in 20 years will be R 522 000.

Therefore in 20 years the total costs net of property value will be R 902 286. Note that you are not making any money from this property because you are staying in it. Therefore, a private residential property is a non-income generating asset (fake asset).

Option B: Renting

On this option we assume that you invest the amount you could have used to use to pay initial costs of the property. If this amount is invested in an ETF tracking S&P500 like Sygnia Itrix S&P500, we can assume a 10% annualized average growth.

Therefore in 20 years time, this amount that could have been used as initial costs will be worth approximately R 272 531.02.

Total rentals paid in 20 years time sum up to R 1 392 000. Rent net of investments will be approximately R 1 119 468.98.

Summarizing both options

Now which one is better? Renting or buying a residential property using a home loan? Basing on the assumptions we make, it is better to buy (option A) since your total home costs net of property value will be R 902 286 as compared to the net rental payments of R 1 119 468.98 under the renting option (option B).

However one can argue that this difference can easily be offset by adding home insurance on option A. This also depends on the rent that is being paid in the area.

For option A to be the best, make sure that the sum of your monthly bond repayments, levies, rates, monthly administration fees and insurance match with the amount you are willing to pay rent. That is if the rent is R 5 800, choose only a property with total monthly payments (inclusive of levies and rates) less than R 5 800.

Conclusion

We think the decision of whether you should rent or buy should be limited to your individual preference. In my own personal opinion, if the property is in a good neighborhood close to great amenities, it can be great to buy it and then when you eventually decide to buy a bigger house later in life you can probably convert your apartment into an income generating asset.