San Francisco Rent versus Buying? In Northern California you’d be Foolish to Buy. Examining the Bay Area Housing Market and Opportunity Cost of Buying a Home.

There are few housing markets in the world that rival the ups and downs of California.  You would be hard pressed to find any other area with a proliferation of mortgages like option ARMs that defy any sensible notion of financial prudence.  Yet many areas in California like the Central Valley for example have corrected and corrected hard in this housing bubble burst.  But there are other areas that not only have not busted but have actually increased in price.  Many areas of California are still enjoying the fruits of the housing bubble.  No other area in California is more over priced than the Bay Area.  Today we’ll look at San Francisco County to highlight some of the issues in home prices.

In California there is a strong debate between buying and renting.  What isn’t being examined is that there is an opportunity cost to buying a home.  That is, you can put the money saved from not buying into other investments.  This is an important issue because it highlights the true cost of homeownership.  First let us look at some information from the Bay Area:

I know to some of you not from California the above prices must seem like some absurd joke but these are in fact home prices in California.  With prices like this you can understand why many people leveraged their finances with questionable mortgages simply to squeeze into a property.  If you look at some areas like Contra Costa County prices have corrected from their peaks in 2007.  Yet San Francisco County is actually up and up by a bit from last year.  This is the county we will focus on to highlight the actual cost of buying a home.

Since the median price is $650,000 I tried to find a home in San Francisco that met this number.  I went ahead and pulled up a home in the 94107 area.  The median price for SOMA is $647,500 so this will be a good area to look at.  Let us dig up a home that hits that mark:

The above home is listed as a “2 br / 1 ba” home and is listed at 782 square feet.  The list price is $650,000.  Yes, this is actually what $650,000 will buy you TODAY in this area.  This is after the entire housing market crashing in California by the way.  Let us now try to find a similar rental in this area:

A 2 bedroom (how do they get 2 bedrooms out of 782 square feet?) will rent for $2,800 in this area.  You can find a 1 bedroom at 782 square feet for $2,500 but we’ll stick to these metrics for our calculations.  Now, let us assume we purchase this home with 10 percent down:

Source:  Dinkytown.net

This is where the number crunching becomes important.  We are coming in with 10 percent down ($65,000).  Our monthly payment should run about $4,632 per month.  The after tax saving net payment comes out to be $3,764.  Now most who argue for buying will stop right here.  But that is a mistake.  Remember that you are putting $65,000 down plus other costs to buy.  You will also pay $1,000 to $1,800 more per month when buying depending on how your tax structure is setup.  That is money that can be going into other investments.  That is the opportunity cost here and what is rarely examined.  Now, let us assume a 7 percent return on other investments and run the numbers:

The above chart is crucial.  You’ll notice that after year 1 you will already have $81,437 from your investment (down payment, closing costs, plus net PITI minus rent payment invested).  Keep in mind we are assuming a low rate of housing appreciation since incomes are now stagnant in California and home price in this area is way too high already.  Prices may actually go down as we now know.  So assuming these factors you can see that it will take you 13 years to breakeven.  That means you better be sure you are planning on staying put in this place for 13 years and are able to cover that mortgage for that long.

Opportunity cost is important because it highlights the complexities of buying a home beyond simple catchphrases.  San Francisco is still exhibiting bubble like prices.  In the above case it would make sense to rent.

If you enjoyed this post click here to subscribe to a complete ad free feed.

Popularity: 9% [?]