Price-to-rent ratio explained: Is it better to rent or buy?

Is now the right time to buy a home or is it best to stick with renting?

That's the age-old question, and it's especially tricky in today's ever-changing housing market. For many renters, the idea of breaking free from a landlord and building equity in a home can sound like a dream come true. However, a buying decision isn’t always so cut and dry, especially with average home prices and interest rates can fluctuate daily.

Enter the price-to-rent ratio: a simple calculation that can help you compare the cost of renting versus buying a home.

Whether you're a hopeful homeowner, long-time renter, or thinking about becoming a real estate investor, here’s a breakdown of how the price-to-rent ratio works and when to use it.

What is the price-to-rent ratio?

Price-to-rent ratio is a financial metric that helps compares the cost of buying a home to the cost of renting one. You can use it to help gauge whether it's more cost-effective to rent or buy and assess whether (or not) a housing market is overpriced. In other words, it gives you a quick snapshot of housing affordability.

If you're a renter curious about jumping into homeownership, this tool can help you determine if it's the right time to take the leap. On the other hand, if you're an investor, it can offer insight into whether a housing market has strong rental income potential or if home values are currently inflated.

How to calculate the price-to-rent ratio

The price-to-rent calculation is pretty straightforward. All you need to do is divide the median home price in your desired location by the annual rent for a similar property—and voilà, you have your ratio.

Here's the formula.

Home Price ÷ (Monthly Rent × 12) = Price-to-Rent Ratio

For example, let's say you are looking to buy a home in Dallas where the median home price is $446,774, and the average monthly rent is $2,012. In this case, the math would look something like this:

$446,774 ÷ ($2,012 × 12) = 18.5

If taking the DIY approach seems more like a headache, you may want to try using the Rocket Mortgage^® Rent vs. Buy calculator. This way, the calculator does the heavy lifting for you without the hassle of using an Excel spreadsheet or writing out the calculation on paper.

What does the price-to-rent ratio mean?

Now, that you’re familiar with how to calculate this ratio, let’s explore what the numbers actually mean for buyers and real estate investors. Typically, you can separate price-to-rent ratios into three ranges: low, mid, and high. Where the ratio falls can indicate if it's more cost-effective to buy or rent.

• Low ratios (below 15): When the ratio falls below 15, it usually means that buying a property is more budget-friendly than renting.
• Midrange ratios (15 – 21): Ratios in this range typically indicate that the market is pretty balanced, and both renting and buying may be viable options — depending on your budget and long-term goals.
• High ratios (over 21): When the ratio is over 21, it may be more affordable to rent, since home prices are high compared to average rents. Whereas for investors, this may indicate that the investment makes more sense for long-term growth investment instead of a steady rental income.

It's important to point out that there are many factors that go into this decision. So, although you can use this ratio as a guideline, other factors like your financial situation and personal goals ultimately determine what's best for you. 

Factors that influence the price-to-rent ratio

Even though the price-to-rent ratio is a simple calculation, the number itself is shaped by many different factors. Every city has unique housing market conditions, and those conditions depend on things like:

• Local real estate trends: Is it a buyer’s market or a seller’s market?
• Interest rates and mortgage accessibility: Higher rates can make buying less attractive.
• The local economy and job market: Job growth, wages, and unemployment rates all play a role.
• Population growth: Fast-growing areas may see higher home prices and rising rents.

Price-to-rent ratio by city or region

Price-to-rent ratios can vary significantly from location to location and may even fluctuate daily.

For example, San Jose, California, is one of the most expensive cities in the U.S. to buy a home. With an average home price of $1.5 million and an average monthly rent of $3,217, the price-to-rent ratio is 38.9, which is very high — making it more affordable to rent than to buy.

On the other hand, Detroit, Michigan, is one of the most affordable cities to live in. The average home price is about $110,000, and the average rent is about $1,200 per month, giving the city a ratio of 7.6, which makes buying a home a more budget-friendly option.

Pros and cons of using the price-to-rent ratio

Pros:

• Provides a snapshot of home affordability within a certain market
• Simple way to compare the cost of renting versus purchasing a property
• Helps real estate investors spot potential rental opportunities with strong cash flow from rental income
• Offers a helpful metric when weighing out your buying options

Cons:

• Excludes other important homeownership costs such as repairs, taxes, homeowners insurance, and interest rates
• Doesn’t offer insights into growth potential or trends of a housing market that can also influence the decision to buy
• Doesn’t consider any personalized information like your finances, savings, or long-term goals

Who should use the price-to-rent ratio?

Whether you're thinking about relocating, tired of renting, or exploring new investment opportunities, the price-to-rent ratio can help point you in the right direction.

To get started, you’ll need some information about median housing prices and average rent. You can find median home price information on real estate websites such as Redfin, or local housing reports. As for rent data, you can visit other websites like Zumper or Apartment List.

Just make sure to look at the specific housing market you’re interested in exploring, like a city, neighborhood, or ZIP code. The more local your data, the more accurate your results will be. Since prices and rents can vary widely from one area to the next, narrowing your search helps give you a better idea of costs.

Price-to-rent ratio vs. rent-to-cost ratio

Also known as the 1% rule, the rent-to-cost ratio is a simple calculation real estate investors can use to determine if a property's cash flow is more than its mortgage payments. It’s essentially a benchmark of sorts, helping investors determine if the income from the property is a good investment.

Here's the formula:

(Monthly Rent ÷ (Purchase Price + Repairs)) × 100 = Rent-to-Cost Ratio

To put this into perspective, let's say an investment property costs $400,000 and generates $4,000 of monthly income.

($4,000 ÷ $400,000) × 100 = 1%

This property’s rent-to-cost ratio is 1%, which is usually the percentage investors are looking for when determining if it’s a worthwhile investment opportunity.

While the price-to-rent ratio helps compares the cost of buying versus renting a property, the rent-to-cost ratio determines if a property's cash flow makes it a worthwhile investment.

Making an informed decision

The price-to-rent ratio gives you a quick look at how buying compares to renting, but it’s only one part of the equation.

Here are a few other key factors worth considering:

• Total cost of homeownership: Your monthly mortgage payment is just one of the many expenses associated with owning a home. As a homeowner, you're also responsible for many upfront and ongoing costs like property taxes, homeowners insurance, possible HOA fees, and routine maintenance. That means if your water heater fails or the roof needs to be repaired, it’s your responsibility to pay for the repairs. That said, before moving forward, make sure your budget has room for these extra costs.
• Financial health: When you apply for a loan, lenders take a good, hard look at your credit score, existing debt, income, employment, and savings. All of these factors influence your loan terms, interest rate, and approval odds. Therefore, if your credit needs some improvement, you may want to hold off on buying a property until your credit score goes up. This way, you might be able to qualify for a lower interest rate and better terms, which can significantly reduce your borrowing costs over time — essentially helping you save money over the life of the loan.
• Pro tip: The price-to-rent ratio is just one metric among many. Coupling it with tools like a home affordability calculator or debt-to-income (DTI) ratio calculator can give you a more complete picture of where you stand financially.
• Long-term goals: Buying a home is both a financial and lifestyle decision. If you expect to stay in the same place for at least 3 – 5 years, homeownership may be a more sensible option. But if you're anticipating job changes, a potential relocation, or other major life transitions, renting may give you more flexibility.
• Ask an expert: When you're not sure which path to take, a professional can help you break down and explore your options. A financial advisor or mortgage expert can evaluate your whole financial situation and help you decide if it’s the right time to buy, or if continuing to rent is the better choice.

FAQ

Let’s take a look at some of the most common questions people have about using the price to rent ration when deciding between renting and buying.

What is a good price-to-rent ratio?

There isn’t necessarily one “good” price-to-rent ratio that applies across the board, since the right choice depends on your goals, income, and local market. That said, there are some general guidelines. A ratio of 15 or lower typically suggests it may be more cost-effective to buy a home. A ratio of 20 or higher usually indicates that renting might be the better financial choice. Ratios between 16 and 19 fall into more of a gray area, where other personal factors like lifestyle and budget can tip the scales one way or the other.

Why is the price-to-rent ratio important?

The price-to-rent ratio is a tool that helps buyers compare the cost of purchasing a home versus the cost of renting. Instead of relying on assumptions or emotions alone, it gives an unbiased view of the local housing market. This way, you can make a more informed housing choice.

However, remember that this ratio is just one data point when making such a big decision. That's why it's best to consider pairing it with other factors, such as your financial situation, long-term goals, and lifestyle, to gain a more comprehensive picture of whether it's the right time to buy.

Is the price-to-rent ratio reliable?

The price-to-rent ratio can be a valuable and helpful tool. But like any financial decision, the more information you have, the better your decision will be. Instead of relying solely on this metric, make sure to consider other factors, such as your credit score (to determine if you qualify for a loan), your goals, savings, employment, and income.

How does the price-to-rent ratio affect homebuyers?

Whether you're a real estate investor or just ready to buy a new home, the price-to-rent ratio can help guide you in your buying decision. If the ratio is low (under 15), for example, this may tell you that buying could be the way to go. On the other hand, a high ratio (over 21) may indicate that renting is the more cost-effective option for right now.

Just keep in mind, though, that despite giving you some insight into current housing market conditions and timing, it’s not a perfect predictor. So, make sure to evaluate the entire buying landscape before making any decision based on one number alone.

The bottom line: The price-to-rent ratio is an important metric for decision-making

The price-to-rent ratio is a straightforward and useful calculation that helps compare the cost of renting versus buying in any local market. But keep in mind, it’s just one piece of the “buying puzzle.” That’s why it’s best to use it alongside other factors like your budget, financial situation, and lifestyle goals.

Since there is no one-size-fits-all solution, ultimately, the choice comes down to what’s right for you. If you find yourself still perplexed about which direction to go, consider speaking with a financial advisor or mortgage expert who can help you explore all your options.

Ready to become a homeowner? Apply with Rocket Mortgage^® and start your home buying journey today.