eli5: If some California properties are cheaper to rent than own, how are these properties at all profitable for owners?


Just learned that when accounting for property tax and maintenance expenses for some properties in HCOL areas (namely CA), the age old truth that it is “cheaper to own than rent” is not true in this example.

But if renting is cheaper, how is the owner not operating at a loss and not closing shop / raising rent?

In: 5

Appreciation of land value is also effectively an income source for the property owner in the long run.

When this is being said like this, it is implying ownership including a mortgage. If you do the math on the monthly payments, taxes, insurance, and all overhead and the monthly cost out of pocket is higher than rent. Then it is cheaper to rent. This is also referred to as being upside down.

When a person has equity in a property and an old mortgage or no mortgage the property works fine.

Raising the rent might not be an option, either people not willing to pay more or legal issues around how much can be charged. Once the person has bought the property with the intention of renting it out to generate income, they don’t have many options, they can potentially sell the property, but depending on the housing market they may not get back what they paid for it. The other option is to sit on their hands collect what rent they can and hope for a better future.

What you just learned is probably a generalization and based on the current market. The person who owns a rental property likely purchased it a long time ago so the math for them is different from the math for a person looking at their options at this moment.

Totally made up example here:

For you a property would cost $700,000 to buy today and your mortgage would be about $3,000 a month and your taxes would be $1,100 per month so your total cost is $4,100 per month.

Someone who purchased 15 years ago who paid $350,000 for the property has a mortgage payment of $1,100 and taxes of $1,100 for a total of $2,200.

So the person who purchased 15 years ago can rent you the property for anything over $2,200 a month and make a profit. As long as they charge less than $4,100 it will be less expensive for you to rent than to buy and that will help ensure that their property has high demand for being rented. I hope this helps.

The owner didn’t buy the home recently, so their mortgage payment is low compared to what it would be were they to buy today or the property is even paid off. Plus property taxes in CA are limited in how much they can increase, meaning a long time owner also pays a fraction of the property taxes a new owner would pay.

So a home that sells for $1m today and has property taxes of $15k has a mortgage payment of around $6000/mo. But if somebody who bought an identical home for $350k in the 1990’s and has now paid it off, pays property taxes of $5k on the house could rent the house out for $5000/mo and and still profit about $4000/mo. even after paying taxes, insurance, repairs.