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The hidden cost of home ownership

Updated Wednesday 12th November 2008

Bricks and mortar - are they really the best place to stash your money? Or are there downsides to using your nest as your nest-egg?

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In the UK, home ownership is high, with successive governments encouraging home ownership for a number of reasons – the Conservatives because they think home owners are more likely to vote for them, Labour as a way of taking the cost of providing social housing off the government balance sheet. We are now a nation of home owners, relatively high in comparison with our European counterparts, especially Germany and France, but still not as high as in the US. Although, in Ireland, Norway and Spain home ownership is even higher. To let signs Copyrighted image Icon Copyright: David Fowler | Are you better off renting?

Home ownership statistics should be treated with caution – different countries measure them in different ways. For example, it depends what you mean by a “house”: using the US definition, four out of 10 homes in India would fail to qualify. Also, in a growing population, for the percentage of home owners to stay still, the number of house owners would have to radically increase. For example, in the US, the number of households increased by 10 million in the 1990s and yet the home ownership rate increased from 64% to 67% during that decade. In the UK, the big increase was between 1951 and 1981 – 28 percentage points – largely due to the sale of council houses at below market rates.

Buying a house at a discount to the market price is a ‘no brainer’. Similarly, in the US, mortgage interest payments are tax deductible, while rental payments are not, making buying relatively attractive compared to renting. Tax deductible interest on mortgages also encourages borrowing up the hilt – the more you borrow, the lower your tax bill.

In the UK, mortgage interest tax relief was abolished in 2000. But buying is still attractive for tax reasons – there is no capital gains tax on your main residence, however much you have made. When the capital gains tax rate was 40% on everything else, that looked attractive. And , in any case, you could take advantage of low taxation by setting yourself up as a ‘buy to let’ investor, with tax-deductible mortgage interest payments and a reduced capital gains tax rate of 24%. And all this was happening at a time when the mortgage market was deregulated, with traditional banks competing with building societies to offer attractive loan packages. They were able to offer so-called “fixed rate” mortgages – in practice for only 2 or 3 years, with borrowers expecting to be able to refinance at the end of this lock-in period with another attractive offer.

The rent versus buy decision is clearly partly a financial one. In a rising property market, it is easy to persuade yourself that if the mortgage costs the same as the rent, it is worth buying for the potential tax-free capital gain. And we all get sucked in. If we don’t buy, so the argument goes, we will lose our toehold on the property ladder. And that means only being able to afford a smaller house or flat in a less desirable area when we do – as we all expect to- eventually buy a property.

But we tend to forget that the property market is just that – a market in which prices go up and down and – worse – where liquidity can dry up much more easily than in a stock market. In a falling market, you may not be able to sell at all. My sister is trying to sell her house and has had the sum total of three visits from potential buyers in the past nine months.

The property market is a market in which prices go up and down...liquidity can dry up much more easily than in a stock market

In a rising market, we also tend to forget about the high costs of buying and selling. For example, renting a flat for £300 a week will cost around £15,000 a year on a flat worth say £350,000. But buying a flat for £300,000 will involve £10,500 of stamp duty, that is, the equivalent of 8 months’ rent. And that is before taking into account the legal fees, the estate agents’ fee on sale, the cost of the HIP, and the fees attached to any mortgage.

But there is a key non-financial reason why we don’t rent as much as say in Germany or France - security of tenure. In the UK, rental agreements are typically for 1 year with a possible break at 6 months, for both furnished or unfurnished homes. You’ve hardly had time to get settled in and you may be on the move again.

In France, furnished lets are similarly short term. But, the most common form of let, unfurnished, is for three years. The person who rents can give one month’s notice at any time; the landlord has to give six months’ notice at the end of the three years and only if there is a very good reason, such as they want to sell, or a close family member wants to move in. And, whatever the rental agreement you have, and whether or not you have paid your rent, you cannot be thrown out during the winter, between November and March.

I once asked a successful entrepreneur what was the best financial decision he had ever made. “Buying my house in Hampstead”, he replied. He had made more money in the property market than from his successful business. I think it is sad that we should in a sense be forced to buy houses and become experts in plumbing, electrics, and painting and decorating. I would far rather delegate that to the landlord, and get on with my work at which I am much more competent! The only problem with renting is the lack of a long-term rental contract to give me peace of mind. Maybe, instead of trying even harder than ever to encourage home ownership, the government could try to sort out the rental market instead.

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