Ten years on, is mortgage better than renting?

By MUNGAI KIHANYA

The Sunday Nation

Nairobi,

02 December 2018

About ten years ago, the value of a house in the middle-income parts of Nairobi was about was about 120 times the monthly rent. If the rent was, say, Sh50,000 per month, then the value of the house would have been about Sh6 million.

Today, that factor has increased to 200. The value of a Sh50,000-per-month house is about Sh10 million. The interpretation of this observation is that the prices of houses have escalated faster than the rent. Extrapolating further, we can say that the demand for house purchase is higher than that of renting.

I am not in a position to speculate the reason behind that shift in the housing market, but, but one reader (Steve Odero) drew my attention to a discussion going on in the social media. Mr. Hyder A. Hyder has calculated that the monthly instalment for a 20-year mortgage at current rates (about 13%) comes to Sh234,000.

If the rates remain constant over the entire duration, you would pay a total of about Sh56 million to the bank. Hyder recons that, instead of buying the house, one could rent it for about Sh130,000 per month and then save the balance (Sh100,000) in an account earning a modest 7% per annum.

According to Hyder’s calculation at the end of the 20 years, the savings will have grown to about Sh52 million. I suspect that he implies that at that point, there will be enough money to buy a similar house in cash.

Steve Odero asked me to confirm if these calculations are correct; and the answer is yes, they are. But we must then ask: is this a worthwhile plan?

At the end of 20 years, you either have a house and no money in the bank or you have Sh52 million in savings but no house. To find out which is better, we need to ask whether the Sh52M will be enough to buy a house.

Hyder estimates that the appreciation rate for a house worth Sh20M today is around 3% per year. I think this is a fair estimate. Thus, in 20 years time, the value will appreciate to about Sh36M. It appears that one will be able to buy the house and still be left with Sh15M.

But there is another factor that we have left out. Rents do not stay constant. Mr. Hyder estimated it at 5% but I think that is on the lower side. Nevertheless, with a 5% escalation, the rent gradually increases to about Sh213,000 by the 20th year.

As the rent increases, the amount saved account decreases. For example, by the 20th year, the monthly saving will be below Sh20,000. For that reason, the balance in the savings account will go down from Sh52M to Sh37M.

In other words, the difference between the two plans is very little. The lesson to take away here is that one should think very carefully before taking a mortgage. You might end up doing what my forefathers termed “kuhura mai na ndiri” (crushing water with a motor and pestle).