Comparing Rent-To-Own vs Rent and Save
Renting and saving for a home loan deposit is the traditional route to homeownership. But what are your options?
Renting and saving for a home loan deposit is the traditional route to homeownership.
But, it's become increasingly difficult for first home buyers to achieve this dream because of rising property prices.
The latest reports state that the current average house deposit in Australia is $119,560. That's an 11% increase compared to a year ago in 2021.
This growing hurdle is causing hopeful Aussie homeowners to stay as renters for much longer than intended.
But fortunately, there are other new paths to homeownership, one of them being rent-to-own.
As you might have guessed, rent-to-own basically means renting with the option of buying the property at a later time.
One of the biggest perks of rent-to-own is that you get to move into your dream home sooner without saving up for a hefty 20% deposit.
But there are several downsides you need to consider before jumping into a rent-to-own contract.
It might not always be better than renting and saving (depending on your circumstance).
So, keep reading to find out all you need to know about rent-to-own vs rent and saving.
Disclaimer: This article is intended to be general in nature and is not personal financial product advice. It does not take into account your objectives, financial situation, or needs. In particular, you should seek independent financial advice and read the relevant product disclosure statement (PDS) or other offer documents before making an investment decision in relation to a financial product (including a decision about whether to acquire or continue to hold).
Quick Comparison: Rent-to-own vs Rent and Save
How does a home loan work?
A home loan is a loan that is used to finance the purchase of a property.
Borrowers typically need to provide a deposit that's at least 20% of the house price in order to get a loan.
Any less and you'll need to pay lenders mortgage insurance (LMI) which is meant to protect the lender in the event the lender defaults on the loan.
If your loan is approved, you will be responsible for repaying the loan principal, as well as any interest that accrues on the loan.
Home loans are typically repaid over a period of 25 to 30 years and usually involve making monthly mortgage payments.
In terms of interest, you can choose to negotiate for fixed or variable rates.
Fixed rates mean that they will not change over an agreed period. This allows you to have certainty about each repayment.
On the other hand, variable rates mean that they may go up or down depending on changes in the market.
Some people feel that it's worth the risk as it allows them to take advantage of potentially lower interest rates.
Key Home Loan Terms
- Deposit: A home deposit is an initial payment to a bank or other lending institution when you take out a mortgage on a property. The higher your deposit, the less you'll need to borrow from the lender.
- Loan principal: The amount of money that you borrow to purchase a home.
- Interest rate: This is a "fee" that's paid to a lender for borrowing money. It is charged as a percentage of the amount borrowed and can be a fixed or variable rate.
- Monthly mortgage repayments: The amount of money that is paid each month to repay a home loan.
- Lenders mortgage insurance: This is insurance paid by the borrower to protect lenders against loss if a borrower defaults on their home loan. LMI is typically required when a borrower has a deposit of less than 20% of the property value, which is considered to be a high-risk loan.
How much should I be saving while renting?
How much you need to save up for your house deposit will depend on many factors including:
- Your deposit size
- Current earnings
- Daily expenses
As a general guide, 50% of your earnings should go to necessities like rent, utilities, and transport.
25% can go towards entertainment and 25% should be added to savings. Also, 15% of your savings amount should be for your deposit.
Of course, the more you save, the faster you'll be able to achieve your goal of home ownership.
Some tips for saving faster include:
- Creating a budget and sticking to it. Make sure to include all of your income and expenses to get a clear picture of where your money is going each month.
- Look for more ways to reduce your spending and free up cash for savings. Are you spending too much on entertainment and unnecessary items? How can you cut down utilities usage? Even spending on necessities can be minimised if you shop around a bit.
The pros and cons of renting and saving
If you're patient and strategic with your spending, renting and saving for a home loan deposit can be one of the best ways to achieve your dream of owning a home in Australia.
You can take your time to save up for a larger down payment, which could help you get a lower interest rate on your home loan.
However, one of the biggest disadvantages to renting and saving is that you might not be able to keep up with quickly-rising property prices.
A 2022 report by Corelogic states that it could take the average Australian approximately 11.5 years to save up a 20% deposit.
Between 2021 and 2022, the average house deposit also increased by 11%. So depending on the housing market, what you had budgeted for a year ago might not be enough the next year.
Here's an overview of the other pros and cons of renting and saving for a traditional home loan:
Renting and saving for a mortgage may not be for everyone because of financial constraints and personal goals.
Fortunately, we now have rent-to-own, which is an alternative path to homeownership that overcomes some of the constraints of "rent and save".
However, you need to be aware of some of its own drawbacks too! So keep reading to discover how it stacks up against renting and saving.
What is rent-to-own?
Rent-to-own is a type of real estate arrangement that is a middle ground between renting and owning.
With a rent-to-own agreement, you typically rent the home for a set period of time, during which you have the option to purchase the home.
Part of the rental payments may go towards the eventual purchase price of the home and there is usually a fee for retaining the option to buy the home later on.
At the end of the rental period, you can choose to buy the home or walk away from the deal.
That's how rent-to-own structures generally work. But the individual terms and conditions may vary between different agreements.
Here’s a closer look at how OwnHome's rent-to-own program works.
Rent-to-own with OwnHome: How does it work?
OwnHome offers customers a faster and easier pathway to homeownership through the rent-to-own model. We're a proptech startup that's backed by the Commonwealth Bank.
Here’s how we do it:
- OwnHome purchases your ideal home and you move in! You only pay a 3% deposit at this point and the property will be in OwnHome's name.
- Make fortnightly payments while growing your deposit. Some of this payment goes to rental and about a third goes to your security deposit which can be used when buying your home from us.
- Buy your ideal home after 2-7 years. The purchase price is fixed and you can use your security deposit to offset the price.
Your dream house costs $1,000,000.
OwnHome buys it and you get to move in straight away.
Your only upfront cost at this point is a deposit that's 3% of the home's value.
In this rental phase, you make fortnightly payments to OwnHome.
But part of it will be added to your security deposit — so your rent money isn't completely "dead money".
You can use your security deposit when buying the house from OwnHome 2-7 years later.
Let's say it's year 5 now, and your home has increased to a pre-agreed fixed price (no surprises)!
It's now $1,200,000 to buy it back.
You've also built up $150,000 in your Security Deposit while renting.
This means you only need to get a loan for $1,050,000 if you decide to buy the property.
But that's not all.
If the current market value of your home is above OwnHome's pre-set price, you keep the upside too.
So if you're buying the house for $1,200,000 from OwnHome, but its market value is $1,400,000, you keep $200,000.
Therefore, your equity in the home is $350,000 — $150,000 security deposit + $200,000 capital gains.
So you'll need to get a $1,050,000 loan with a 75% LVR.
The good and bad of rent-to-own
One of the biggest benefits of renting-to-own with OwnHome are the lower upfront costs (just a 3% deposit).
Plus, you can start living in your dream home straight away and build your security deposit along the way.
Here's an overview of the other key benefits and drawbacks:
The lowdown: Should you rent-to-own or rent and save?
So should you choose rent-to-own or rent and save?
This ultimately depends on your financial position and goals.
But here's a summary of how they compare based on some key criteria:
When you look at how much money you'll be coming up with at the start, OwnHome is a clear winner.
A 3% initial payment is all that's needed to get started (for a $500,000 home, it'll be a $15,000 initial payment).
If you rent and save for a $500,000 home, a 20% deposit for a loan will be $100,000.
Again, if climbing the property ladder as soon as possible is your top priority, OwnHome may be a better bet.
You don't have to wait years to build up a 20% deposit. Just a 3% deposit is enough to get started.
The fixed pricing when you buy back your home from us also means you won't have to worry about timing the market.
You'll have certainty in knowing how much your home is going to cost when you choose to buy your home from us.
Plus, if the market value of your property is above your buyback price, you keep the upside!
With a traditional mortgage, you'll be building home equity from the start because the property is in your name.
When you rent-to-own, you only really start building home equity when you've officially bought your property from OwnHome.
Control over home
Of course, if you're a homeowner, you're entitled to do what you want with the place.
At OwnHome, our goal is to help you get on the path to being a homeowner. That's why we give customers in the rental phase as much liberty with home renovations.
So, feel free to paint your home or hang that painting! (But of course a complete demolish won't be possible).
Those are the critical differences between renting and saving vs rent-to-own. So that should be able to give you an idea of which is better for you.
Want to get a more personal comparison based on your current finances?
Use our calculator below to discover how much you'd save with OwnHome compared to renting and saving.