Bernard Hickey: Time is right to buy

For years, the common refrain from potential home buyers has been that it's cheaper to rent than buy.

The sharp rise in house prices from 2003 to the end of 2007, combined with a rise in the two-year fixed mortgage rate from 6 per cent to almost 10 per cent over the same period, seemed to be the death knell for many dreams of home ownership.

But that picture has changed dramatically in the past year as interest rates have fallen, house prices have fallen, rents have remained broadly stable and after-tax pay has improved because of wage growth and tax cuts.

Analysis by interest.co.nz shows it's now cheaper for a typical first home buyer's household to buy than to rent, when rates, maintenance and insurance costs are excluded. It also excludes the opportunity cost of interest earned on a deposit amount instead sunk into a property.

Measuring these costs is important, but we haven't yet found typical measures given the variances in rates bills, insurance and maintenance depending on the type and location of property.

But the picture is clear. The major cost of home ownership - interest costs on a mortgage of 80 per cent of a first-quartile home (ie the midpoint between the lowest-priced houses and the median house price) were around 1.5 per cent less than the rent on a similar-sized house in January and February.

This is the first time since we started collecting the data at the beginning of 2006 that it's cheaper to buy than to rent and is a major improvement on the 10.3 per cent premium for buying over renting in November 2007.

We're assuming this first home buyer's household is made up of two 25 to 29-year-olds, median salary earners considering moving into a median-priced three-bedroom rental house rather than buying a first-quartile priced house. This is the "classic" couple at that point where they're considering starting a family.

This is where the dream of home ownership is most potent and we think the decision-making point is most concentrated. We've heard repeatedly in recent years how couples in their mid- to late-20s have come to this point and decided to leave New Zealand because there was no hope they could buy a home and start a family.

I'm sure it was one of the driving factors in the exodus of young New Zealanders (and their parents) to Australia in the past three years.

Our calculations show this couple now earns $1307.87 after tax each week, up from $1221.13 a week in November 2007, when house prices peaked.

Then, the mortgage payments on an 80 per cent mortgage for a first-quartile home were 34.9 per cent of take-home pay. The rent on a three-bedroom home soaked up 24.6 per cent of after-tax pay. So the advantage of renting was essentially worth 10.1 per cent of net pay.

Now that gap has narrowed to the point in February where it has become negative for the first time. It now takes 23.7 per cent of after-tax pay to afford the rent on a three-bedroom house, while it takes 22.3 per cent to afford the mortgage.

Obviously, the costs of maintenance, insurance and rates will mean it is still more expensive to own a home, but it is now within that margin of error where the heart can conquer the head.

Another way of describing it is to say the footloose and fancy-free husband no longer has any good excuses to put off the nesting instincts of the wife. In other words, it's time for another baby boom. (Complaints please to bernard.hickey@interest.co.nz).
So what might this all mean for the property market and New Zealand's demographics?

For years, real estate agents have told first home buyers that rent was "wasted" money that could be put to better use in "compulsory saving" on the mortgage. Of course, this isn't strictly true and pointing out the the obvious extra expense of a home loan made for an easy rebuff. Not for much longer.

But it may not contribute to a rebound in house prices. Banks are now tougher with their lending criteria, particularly for those wanting to borrow more than 80 per cent of the value of a home. The lure in days gone by of easy capital gains has also evaporated, discouraging the sort of highly leveraged first home buying seen through 2005, 2006 and 2007.

Sales volumes, however, are already picking up as first home buyers dip their toes back in the real estate market to snap up bargains from distressed sellers.

This shift in the rent-versus-buy calculation is also great news for New Zealand's population trends, discouraging migration of New Zealand-born citizens and encouraging family formation, with all the social benefits that entails.

It all depends on house prices continuing to fall, interest rates staying low and incomes continuing to rise. This analysis also excludes the effects of rising unemployment. That may be the variable that renders this structural change in our economy redundant for now.

* Bernard Hickey is the managing editor of www.interest.co.nz, a website for investors and borrowers wanting free and independent news and information about interest rates, banks, finance companies and the economy.