What happens when housing depreciates | Housing | Finance & Capital Markets | Khan Academy
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Factoring in appreciation and depreciation into the rent vs. buy decision. Created by Sal Khan.
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Finance and capital markets on Khan Academy: Is it always better to buy than rent? What if home prices go up dramatically and rents don't? How can we compare home prices to rents to figure out what to do. This older tutorial (low-res, bad handwriting) walks us through this. It is about housing but similar thinking can be applied to any rent-vs-buy decision (spoiler alert, Sal did eventually buy a home).
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A few more things to add to the equation (coming from a financial advisor)1. Trash & Water bill 2. Property Maintenance (extra $ for homes with pools) 3. Home owner's insurance 4. Mortgage Insurance/PMI possibly, if in the current market we give less than 20% down payment 5. HOA fees if it's a Town Home/Condo. If so, delete #1 since it's included in HOA's. People COMPLETELY forget about these overhead costs when purchasing. These are great videos. Something I have been debating for several years but people just don't get it. Not only that, why would I want to be stuck in ONE house for the next 30 years of my life??? There is a whole world to explore out there.
Wow Khan you actually unknowingly predicted the collapse of the financial industry in 2008. You must have made a fortune from the collapse.
Sam Wong
From 4:10 to 4:15
I was expecting that in order to cover up 15500 ,Mr.khan would say "In order to cover up 15500 ,the rent would increase by so much %" Why didn't he say this ?
Many people understood that the housing market was going to collapse beforehand. A division of Goldman Sachs already knew in 2005, at which point they stopped purchasing mortgage backed securities
And he didn't 'unknowingliy' predict the collapse, home prices were already dropping when this video was made
He probably did, but sadly he never got to 'see' and 'hold' this money he avoid to lose because he didn't buy a house 😂. It's like imagining yourself eating a $500 steak dinner, ummm yum.
As a home owner and investor, so many things you should calculate before buying a house: Location, property taxes, fixing things, the price the house was in it pick etc.
and don't forget the 6% that you lose when you sale the house ( In the US the seller pay 3% to the real estate agent that help you sale the house and 3% to the agent that help the buyer to buy the house)
My advise: if you don't have at least 50%-70% from the house value in cash - don't take a mortgage and keep renting!
This was great! And if you really loaded this up in 2008, you were SO far ahead of the educational curve on this. Kudos to you!
you cant just fraud upload dates...
Speaking with a Economics teacher, I was told that the optimal situation had 35% of my monthly $$$ going to my needs(Mortgage, utilities, cars, insurance, etc.) Anymore & I'm living beyond my means. Haven't slept well since.
I'm glad I've been renting an apartment for over 10 years. This video confirmed my suspicions about buying a house.
It depends on the quality of life you want. Rent a very nice you can afford or buy in an area or a house that is not as nice
+peace and love The issue is in senior years, you do not want all your pension to go to rent. It is best if you owe your house, even its a studio apartment for an elderly couple.
peace and love most people that live in houses in the us today do not own them. And the ones that do spend so much money annually to maintain them that it isn't all that people make it out to be. I'm talking about money spent and saved. Not comparing sq ft or luxury etc
And what about the fact that after the years you own the property.....compared to not? Also, once you do own the property imagine how fast your savings can then grow from investing.
Interesting Videos nope. The money I save from renting and not paying interest and property taxes can go to investing TODAY such that I can probably buy a better house in CASH long before my.morgadge would have ended. So I'm not buying your argument
Dude, you are absolutely AMAZING! You've taken my understanding of Renting vs Buying from ignorant to incredibly educated & on top of that you've helped me understand a lot of terms I was having trouble comprehending. I've buckled my pants, gripped them & now I am marching my way through the internet finding a lot of great useful articles on finances for housing & to discover that renting is FAR MORE lucrative than buying really puts things into perspective! Thank you again so much bro! Godbless
I've been trying to explain this to everyone around me for years... Us who subscribe to this school of thought are a very rare breed.
For part 3 of this series:
The dishwasher breaks, and then the A/C breaks, and then the roof needs repair, and then.... (it never friggen ends!)
Ah the joys of home "ownership". Never again.
Sincerely,
soon to be former "owner"
That's what I'm talking about. That nasty, vile word "upkeep", When it rains it pours. You've got to get a new roof, new water heater, insulation redone. Up here in the north an older home can cost almost $1,000.00 or more in heating cost and that's at 68 to 70 degrees on the thermostat. I was always broke owning a home. NEVER WILL I OWN ONE AGAIN. Plus I don't like to cut grass/yard work. I'm single, no kids so I can pick up and go anywhere in the world and work. Love renting!!!
I think this makes perfect sense, people who assume that in the end you could own a house ignore that fact that individual who chose to rent in the example has $250K in the bank. This amount gives the individual financial independence and hedge against a job loss or a health issue. in case of an unwarranted situation he or she could move to a $1000 rental house without any hassles and can continue to enjoy his or her financial independence. Mortgage is a liability till the end however the person in this example who chose to rent can grow his money. Say he adds around $1000 every month to the corpus of $250K he could convert the 250K to around 1.5 Million (4%) in 30 years. Even with the worse inflation down 30 years the value of 250K could be upheld with 1.5 Million. Financial independence also gives you peace of mind, mobility and a stress free life. Miss one mortgage payment and all hell will break lose for the person who opted to buy the house !!
Finally!! Someone who get's it. I think people get to emotionally vested in pursuing to own a home and owning a home that they forget to about the bigger picture. Plus, people don't realize that historical data has proven that home values barely stay above inflation while mutual funds and retirement plans ROI is way above inflation.
There are so many options out there that people don't know about. Financial illiteracy is plaguing the country and the banks are loving it. Avoid debt at all cost.
Thank you for validating one of my points of not wanting to own a house in CA. Also, another factor is that there is maintenance (sometimes large) for home ownership and the factor of being required to purchase insurance to HOA fees. Renting just seems so much more money sensible for most people.
I like the calm voice each time I hear.
You can always tells when someone thoroughly understands a subject by how easily they can explain it those with perhaps no knowledge at all of the matter.
Very well done! And I extend this congratulatory statement across all of your videos.
Kudos
wow crazy foreshadowing from 08
Thank you so much for this GREAT demonstration. It's made me even more careful and cautious about buying a house. I'm single and making good $ but still renting and everyone tells me to buy a house. I always say I want to take my time and not jump into it. I'm just afraid of getting stuck. Thanks again.
Appreciate your unbiased and objective analysis, makes total sense, could not agree more.
Thanks for the video. Simple mathmaics makes the whole subject alot clearer.
I am now a full fledged passionate follower of your wisdom!!!
Your friend most probably invested at a time when people did not consider real-estate a no-brainer investment or there were higher barriers to getting a mortgage which made the investment returns better. Those times are coming back and I agree with you that real estate will be a great investment then. It is, however, a fairly dangerous investment in the short terms (especially if someone is expecting appreciation).
Maaaan, Sal is smart, like super smart. I feel serious inferiority complex. His ability to handle concepts in such fluid ways is my goal in life. I Hope, I succeed.
sal khan. Thank you so much for such an educational video. I learn more than I wish I did when I was younger on your website. Again I really appreciate your effort to educate people in the easiest way possible. Really all I can say is thank you and I wish you gain something from your contributions.
Exactly!!!
You did it the right way. This is how home-buying should be conducted and you are living proof that it makes good sense.
I do not argue that buying is always a bad idea. I argue that it is not always a good idea. Any asset can be a great or horrible investment at a given price. I challenge you with the thought experiment: At what price is a house not worth a purchase? Are you willing to pay any price for a house on the faith that real-estate prices always go up? Investing is looking at the return on investment. Speculating is hoping that prices go up.
Dear Sal Khan
What an excellent Explanation . This Video is an eye opener for all the innocent people who thinks buying a home is a Investment.
With Million Thanks
Chirag Ali
thank you so a lot for making this video.
I'm tempted to this this as well...
Superbly put.
i "bought" a beautiful home in se MI in 2000, i was 20yrs old. i was a roofing contractor. i "bought" the home for $180k with 10k down. i made my payments and improved the home with close to 100k and 4 yrs later the home appraised for 450k! 1 yr later i couldn't sell the home for the 180k i still owed so we had to pack what we could and leave. 5yrs later i'm a happy renter and will never assume that kind of debt again. you'll see exactly what you "own" when you can't make the payments! great vid
money renter versus house renter - excellent explanation 🌟
Housing is about homes and I wish the government would create a realistic housing plan and finally see what we all know; that stable housing creates healthy citizens, productive workers and happy individuals 🙌
Smart man...:)
where's the previous video? Playlist not in order can't trace.
Interest-only loans are a simplifying assumption that do not change the overall argument. I'd be happy to provide a more detailed model (with amortization schedules, discount rates, and key assumptions), but I don't think that would provide as good of an explanation of the main drivers behind making the rent vs. buy decision.
Great set of videos. I've always been a renter, never bought a home. The one time I did consider buying a home, the interest quoted to me doubled the price of the house, so I knew it was a money pit I didn't want to end up in. I actually answered phones for a large bank after the mortgage crisis. So many people were going into foreclosure. If you rent, and you lose your job, you just lose your place to live if you eventually run out of rent money. If you lose your job and you have a mortgage, you lose your home, you get a foreclosure on your record, and if you put any cash into that house, it's all gone. I saw it over and over at work. I had one guy call me and ask if he could trade houses because his neighborhood turned into a drug neighborhood. Of course I told him no (if he had been renting it would have been easy to get out, wait till the lease is up or break the lease and leave now) but instead he most likely had to decide to sell the house at a loss since the neighborhood went down. And who knows, maybe he couldn't even sell the house. The only thing I don't like about renting is that I can't have pets here.
This is very true in markets in big cities but... in some rural areas where financing is difficult to get the story changes. A house might be worth $60,000 but rent for $500/m. This is why it's always best to evaluate your own situation and market.
Predicted the 2008 Crash! When are you doing your next video?
it make me understand the process
I was just running some numbers and if somebody was to rent the $1m home with the $250k in the bank accruing interest at 4% every year, and if they also took the ~15k/year saved by renting and put that into that same account every year they will have saved up ~$1m after 20 years. This video had really opened my eyes to the benefits of renting vs. buying.
Well done. It's important to realize that the situation makes a HUGE difference though. I live in Texas and was renting a 1k sqft apt for the same price that I bought a 2k sqft house for. I only had to put $10k down and will have it paid off in 20 years because I pay an extra $200 per month toward the principle. It make A LOT more sense for me to own than to rent.
This is very interesting. Do you think house prices are going down in 2018-2019?
this is all well and good, appart from if you live in London (like me), where you can get a mortgage for about 2.5% and renting a 500k house is about 2k a month. Plus property prices go up by Minimum 5% a year (10% in some places).
Thanks for the fun lesson.Its now 2017 and morgage rates in Canada are from 1-3 %,and the rising home values are peaking.😃
lol
Great video! One more thing that you could add to your video. Home insurance versus renters. Sorry if you mentioned it and I didn't hear it.
do u write software in the valley?
and do you actually want to live in the valley long term? or are you there for now because work is there?
I have no money so it makes no difference.
just borrow some money :D
What seems to be missing from this video is what I consider the most important advantage of owning: No longer having to spend most of your income on housing AFTER the mortgage is paid off. If Mr. Khan extended his financial analysis let's say 10 years post-mortgage, I wonder if he would arrive at a different conclusion. -- Btw, I'm a big fan of his work and what he's doing to improve understanding/learning across the globe.
I love you man.
Great video. I have same arguments with my head-in-the-sand friend and they dont get it. One thing you left off was when you own a home you have to maintain a home. Can easily add another 15% to that monthly home ownership cost for amortized repairs, upkeep, maintenance, landscaping, etc. When the roof goes tits up, its a $10K day for the homeowner. When the roof needs replaced on a renter, its the landlord's problem. Home ownership is EXPENSIVE. Its a lifestyle decision more than anything.
True, everyone's situation is different. There is no "one size fits all"
wow! amazing video A++++ im glad i rent :)
What about rent-to-own options?
what is your thoughts on rent to buy?
Exactly.
Khan you should do a video on allodial ownership of land!
im a 31 yr. old man in milwaukee, wi that had some time on his hands. i've been worring about the future of me and my kids with the economy being the way it is and i was wondering about what would happen if banks bust. i found your page by a mistake. i was looking for info about stock and bonds and anything that can help me build a future for my family and i'll say that these postings have really been educational and it gives me a better look on the way i should handle my money.
In general he is using a good thought process to compare renting vs. buying. However, times have changed since this was made and currently in 2016 interest rates on mortgages are between 3-4%. This changes the math significantly. Also a savings account (online) today will only pay 1% so that reduces the renters benefit for savings significantly (he used 4% as an example). He also omits the fact that bank interest paid on savings is taxable income so the actual dollars earned is further reduced. You can use this approach to get a general idea of renting vs. buying but be sure to plug in today's numbers to get an accurate picture of what you are getting into!
Good video ... I love the math you did. Yet now that we are 11 yr's past the posting of this video. Housing prices are UP significantly across the nation. You mentioned the Bay Area ... prices are SOARING beyond belief. Another thing to add is supply & demand in regards to why home prices go up. As for the Bay Area, there are only so many build-able available. Add in the soaring income for tech workers ... end result soaring home prices. If we then consider people saying I won't sell, so I can pass on this homes wealth to family members. It all adds up to SUPPLY & DEMAND. Renting in the Bay Area is a losing proposition!!!
Agreed.
I plan on renting while saving for a home and then paying for most of it. Where I live you can a nice townhouse for 100-120k. After you buy that house you can then start saving for your next house. After you get enough saved you can buy the next home (240k, which is quite a lot nicer home), while either renting out the other (which in some cases you can even rent more than the mortgage which I am doing right now) or you can sell that home and apply that money to the new home.
We never own our home outright.You'll find out firsthand if you stop paying your property taxes.
You never own your knife outright. You'll find out firsthand if you ever stick it in someone's chest.
***** wtf..lol
Alphadog Very true! This is the case even in states with homestead protection against debtors. The state can still throw you out and seize your home to auction it off if you can't pay the property taxes. Where I live it is 3 years and then you are out on the street.
Alphadog I wish more people understood that they own nothing. What you're looking for is a Allodial title. Its the only title where you own anything.
right..you might own the structure free and clear but you NEVER own the land it sits on.
I haven't watched the detailed analysis video yet but it seems like you've focusing on time scales that are too short. Looking at over lapping slots of say 15 years would be a good idea perhaps, just to see what value the house would be at.
Also, it would be nice to estimate how the mortgage payments go down and the rent goes up (lets say in line with inflation) and compare the amounts in the future.
Thanks for the video!
What about if you do not put any money in an investment account. Just plain renting vs buying.
nice video:)
Don't forget inflation. After 30 years the savings are reduced by 50% while the house value has increased by 100%
This analysis has made a few fundamental flaws:
1. Inflation has increased by 2% on AVERAGE for any 30 year cycle which means that your rent will increase by 2% (compounded for 30 years $$) and thus your house selling price appreciation will increase by 2% (compounded for 30 years $$)
2. Land is a finite resource (fixed supply) while populations and global access is increasing (more demand) thus prices must go up above and beyond inflation/gdp growth.
3. You must tax capital gains on your alternate investment income in your rent example thus decreasing your savings by 25-30%.
4. Particularly in the Bay area your planning authorities have severely limited supply (mostly fixed) and desire to live in the area (high demand) is high and will continue to be for the foreseeable future.
5. Your 2% spread between savings returns and mortgages charged is likely closer to 4-5% which would completely change the numbers not in your favor. EG. when CD's return 1% mortgage rates are likely closer to 5%.
All assumptions are based on averages over a long 30 year cycle.
Not to mention, even if you assume the $1m house didn't appreciate at all, you can end up selling the house for $1m down the line; you can't sell that apartment you've been renting for 30 years for anything.
Mark Carbonaro to be fare his example accounts for this however I think additional factors have not been included.
@nick I second that because owning is just such a hassle while renting you pay rent and that it no hidden tax or anything also after the hurricane I may never think about owning a house because bad weather can mess up everything
I would like to see a present value analysis or future value analysis to account for the earned value of the home over the life of the loan vs renting. You could assume that the house appreciates in a similar way that the rent increases.
You must be a real hit at parties.
Watching this in 2023 is crazy. Not only did you predict the absolute crash of 2008 we managed to get into another bubble in 2021-2022, and now it's crashing again but with extra high rates.
You'll also still be paying the interest on your mortgage if you have an interest only mortgage. or am i missing something?
To add to what illeyjs noted, home maintenance out of pocket costs range from 2-4% of the house value, plus costs for water, sewer, trash, more expensive utilities.
Great video. One variable that needs to be considered is inflation and the overall direction of the housing market values. Inflation essentally devalues the dollar, hence prices on everything will continue to go up. Our national debt is so high that eventually inflation will kick in and devalue our dollar. If you get a fixed payment loan you lock in on predevalued dollars. You may earn 4% on the 250k but if inflation is 5% you actually lost money. Please expand on this and NPV. Thanks!
Why are u not including costs to maintain the bought house?
I was raised in a household by a mother who was a realtor, then I became one myself. Home ownership, once established is the idealist way to go, as for now, it is cheaper for me to rent rather than purchase until I can afford the entire home outright. Boardwalk does provide other assets not associated with the responsibilities of owning one's home, depending on an individuals requirements/conveniences.
Dear Ma.,
Thanks for your response.
You are quite right.
I made a mistake trying to say that "even the green grocer doesn't put prices up at his whim".
.
A landlord doesn't set a price on his rental product that would be out of keeping with what the market can pay.
.
When a landlord has a vacant property for ages it usually means that it is overpriced.
.
An unlet house or apartment for a year would be uneconomic; it sounds like that landlord doesn't want a tenant.
.
.
Cheers.
from,
del-boy.
So glad to see so many comments from smart people like yourself. The guy who made this video made glaring omissions and displayed a fair amount of ignorance of the long term gains in buying a house... Pitting a BEST CASE renting scenario ($1m house rented at a measly $3K/month with $250K in savings AGAINST a $1m house with no savings in bank and an expensive 30year mortgage)...
Doesn't make any sense.
@shakaama nah i wasnt insulting i was "wondering" aloud, merely
Yes! You are Right! BUT! If you rent 1 of the 3 room house that you buy doesn't make any difference on the payments. I mean! if you have an extra income should be better for a home owner.
This video is fucking awesome. Love the simple and easy explanation, and now I can argue better to my friends.
While this may be the case to begin with, after 2/3 of the the loan term has past the interest paid each year starts to drop off and a substantial portion of the original principle starts to be paid off
Dr. Basford give me an A+++++ thanks :D
Don't you have to count the mortgage payed for the year on top of interest?
Chris Kwong he went with the interest only option show you the least possible payment you'd need to make.
I do agree with you that most area has cap rate of 6%. 30% is already a high tax bracket for 250k annual interest ($10k in this video) for average americans with average income. by the way, i am getting about 8% cap rate at today's rental and housing market condition.
I have a question, what if you are buying with cash? I am 25 years old and am considering buying a home but and not sure if I should rent. I will be living with my girlfriend of 4 years who works as a teacher at a University (duel income). Also, why I am considering a cash purchase is because I do not know if we will be in the area for more than 5 years. I certainly wouldn't mind living there, but a better job opportunity could change things. I appreciate any feedback you can provide.
Yeah, repairs and maintenance are big ticket items that need to be factored in. Renters never have to worry about repair costs!
Sir, have you taken into account the years beyond 30 years? You will still be paying your rent.
So in my area Manchester NH my father bought a house for $35,000 in 1970 that same house has sold for many differnt prices over the years but the last tie was for $300,000 during this last down turn so in 40 years it went form $35,000 to $300,000 and if that would have been one owner the whole time. They would have made $265,000 above the original purchace price. The rent on a house like that in the same area was renting for a couple hundred dollars.
And don't forget, if prices move against you far enough, you can always walk away. At the same time, you enjoy all the theoretically unlimited upside to appreciation. Combined with the capital gains exclusion (which in itself is not guaranteed), this makes ownership more favorable and should be factored in. One must also analyze the proposition over the expected horizon of ownership. On a year to year basis, this is an easy calculation, but perhaps one should look at it at a 7-10 year basis.
your should play the realestate shot game conundrum :(
I think that if you buy a house, you should put on the annual return also the fraction value of the house you are earning. For a 30 years mortgage and 1M house like in your example you should put at least 33K/year. This is the main goal of buying the house : year by year you are making the house yours.
@dhruvrai23 Your calculation of 30x41.5k =1245k is just the money spent on interest, that doesn't include any more being spent toward the million dollar principle.
this makes me want to be the person renting out the house
Right now is the best time to buy. In FL a lot of government money support for First time buyers. + up to $8,000 tax money
Sal, this video was posted 5 years ago. Do you wish if you had bought a home back in 2008, now that in 2014 housing prices are the their high pick?
a gamble my friend its what it boils down to
yolemmein assuming u survived the housing crash, and your neighborhood dint turn into a Geto like some did
In theory that works but in practice in other markets it does not . I like to see you do a video of my scenario and say I am wrong for buying: 1100-1500 rent or 100-150k house my current mortgage + tax monthly payment is 647 at the end of 15 years I own my house and can either rent it as a asset or only have to pay property tax of 3% a year. So while you are correct in California your not in many other places of the country
+Al Var
I was told by several people who properties in cities like Minneapolis, Milwaukee etc that to buy and rent out in Cal is not very profitable. That housing market is unique.
You got that right Julio. I live in So. Cal. and this video makes sense here. Maybe not in other states where property prices are very low compared to us. A few more things to add to the equation 1. Trash & Water bill 2. Property Maintenance 3. Home owner's insurance 4. (possibly, if in the current market we give less than 20% down payment) Mortgage Insurance 5. HOA fees if it's a Town Home/Condo
45k / year. 6% is the annual interest rate. The interest will go down every year because it is calculated on the outstanding principal (750k at the start). But like he was saying, you are mostly paying interest instead of principal at the start of making mortgage payments, and so for the first while it'll probably be close to 40k per year.
ME TOO
I think the next video should show what price range you would have to buy in order to get something that would be the same cost as renting but you would still get the benefit of having a property. Buying is usually not to buy something comparable to what you are renting. In the long run, you will make money back in real estate. The market will recover from the recession. You can also take that 250k and buy property in cash elsewhere for cheap and rent it out, (NV, Merced, Sacramento etc).
It's a good point of view, but these numbers only account for the first years of a mortgage. Once the principle drops with monthly payments, the interest amount drops as well. So in the first 20 years it may be more expensive, but after the first 20 years it becomes much cheaper to owe than it does to rent. Especially once mortgage is paid off and all you're paying for is property tax. That doesn't include the cost of upkeep which I've never seen any research on how much that tends to cost.
You should add the opportunity cost of the 250K that is tied up in the house, which can not be invested in example a CD. This will make you argument even better.
You forgot to add the other fees and costs associated with home ownership as well. Maintenance costs, HOA fees, community fees for special projects in the neighborhood, insurance costs, and the fact all bills are seperate. I live in an apartment and I don't have to pay for water, trash, cable, maintenance, insurance, proprety taxes, a mortgage, and all the other fees I listed.
Hes like got a Bachelors in Mathematics, another in Engineering and Computer Science, a Masters in Computer Science, from MIT and an MBA from Harvard... Trust him!