Rent vs Buy Glossary

Amortization

The schedule by which a fixed-rate mortgage payment splits between principal and interest over time. Early in the loan, most of each payment is interest; by year 20 or so, the split inverts and most goes to principal. The full schedule is set at origination and does not change unless you refinance or make extra principal payments.

Example: On a $400,000 30-year mortgage at 6.5%, the first monthly payment is roughly 78% interest and 22% principal. By year 20, the same payment is closer to 30% interest and 70% principal.

APR (Annual Percentage Rate)

The all-in annual cost of a mortgage as a percentage, including the interest rate plus origination fees, mortgage points, and certain other closing costs. APR is typically 0.10 to 0.30 percentage points higher than the headline rate. Federal Truth in Lending rules require lenders to disclose the APR on every mortgage quote, which makes it useful for comparing offers.

Example: A 6.50% rate with $4,000 in lender fees on a $400,000 loan produces an APR closer to 6.62%.

Adjustable-Rate Mortgage (ARM)

A mortgage whose interest rate changes on a set schedule after an initial fixed period of 5, 7, or 10 years. The starting payment is usually lower than a comparable 30-year fixed, but the rate can climb at each adjustment, sometimes sharply. ARMs make sense when the planned stay falls inside the initial fixed window or when rates are widely expected to fall.

Example: A 7/1 ARM might start at 6.25% versus a 7.0% 30-year fixed, saving about $130 per month on a $400,000 loan for the first seven years.

Break-even point

The year at which the cumulative cost of buying a home falls below the cumulative cost of renting a comparable property. Drops out of any honest rent vs buy comparison and varies by market, rate environment, and rent growth. Five to eight years is typical across most US metros; high-cost-of-entry markets can stretch the break-even past ten years.

Capital gains exclusion (home sale)

A federal tax rule that lets a single filer exclude up to $250,000 of gain on the sale of a primary residence from taxable income ($500,000 for married filing jointly). You must have owned and lived in the home for at least two of the prior five years, with limited exceptions for moves driven by job, health, or unforeseen circumstances. This is an exclusion from taxable income, not a deduction.

Closing costs

One-time fees paid at the close of a home purchase. The buyer typically pays loan origination, title insurance, escrow setup, recording fees, transfer tax, prepaid interest, and an initial property tax and insurance impound. Total is usually 2 to 5 percent of the purchase price. Sellers pay another 5 to 8 percent in agent commissions and transfer taxes.

Example: On a $400,000 purchase, buyer closing costs typically land between $8,000 and $20,000 at the table.

Down payment

The portion of the home price paid in cash at closing rather than financed by the mortgage. 20 percent is the threshold above which lenders typically waive private mortgage insurance, but down payments of 3 to 10 percent are common on conventional and FHA loans. A larger down payment lowers the monthly payment, reduces total interest paid, and may improve the interest rate offered.

Example: On a $400,000 home, a 20% down payment is $80,000. An FHA minimum 3.5% down is $14,000, but the loan then requires mortgage insurance for the life of the loan.

Debt-to-income ratio (DTI)

Monthly debt payments divided by gross monthly income, expressed as a percentage. Lenders use two views: the front-end ratio, which counts only housing costs, and the back-end ratio, which adds car loans, student loans, credit cards, and other recurring debt. Conventional loans typically cap the back-end at 43 to 50 percent and the front-end at 28 to 31 percent.

Example: Earning $8,000 gross monthly with $1,000 of car and student loan payments and an $1,800 housing payment, the back-end DTI is 35 percent.

Earnest money

A deposit, usually 1 to 3 percent of the home price, that the buyer puts down when an offer is accepted. Held in escrow by a neutral third party until closing. Applied to the down payment or closing costs at close. Forfeited to the seller if the buyer walks away without invoking a contract contingency such as inspection, appraisal, or financing.

Effective property tax rate

The annual property tax paid as a percentage of the home's market value. Differs from the statutory mill rate because of assessment ratios, exemptions, and assessment caps. The US national average is around 1.10 percent. Hawaii and Alabama come in under 0.40 percent. New Jersey, Illinois, and parts of New York run above 2 percent.

Example: A 2.0% effective rate on a $400,000 home is $8,000 per year, or about $670 per month escrowed.

Equity (home equity)

The portion of the home's market value the owner holds outright. Equal to current market value minus the outstanding mortgage balance. Equity builds two ways: through principal payments that reduce the loan balance and through home appreciation that raises market value. Equity is not cash until the home is sold, refinanced with cash out, or borrowed against through a HELOC or home equity loan.

Escrow

A neutral third-party account that holds funds in trust during a real estate transaction. After closing, mortgage lenders typically keep an ongoing escrow account holding monthly property tax and homeowners insurance contributions; the lender pays those bills directly when they come due. About 80 percent of US mortgages are escrowed; jumbo loans and lower-LTV refinances sometimes waive the requirement.

Fixed-rate mortgage

A mortgage whose interest rate is locked for the life of the loan, typically 15 or 30 years. The monthly principal-and-interest payment never moves. Property tax, homeowners insurance, and HOA dues can still rise, so the total monthly housing cost is not actually fixed even though the loan portion is. The most common US mortgage product.

Flood insurance

A separate policy from standard homeowners insurance that covers flood damage. Often required by the lender for properties in FEMA-designated Special Flood Hazard Areas. Priced by flood-zone risk and elevation. The federally backed National Flood Insurance Program writes most US policies, though private flood insurance has grown since the 2019 Risk Rating 2.0 reforms repriced NFIP coverage upward in many coastal areas.

HELOC (Home Equity Line of Credit)

A revolving credit line secured by home equity, typically variable-rate and tied to the prime rate plus a margin. A draw period (often 10 years) lets the borrower take advances as needed; a repayment period (often 20 years) requires full principal-and-interest payments. Different from a fixed-amount, fixed-rate home equity loan, which is a one-time disbursement with a level payment.

HOA dues

Monthly or annual fees paid to a homeowners association covering shared maintenance, amenities, reserves for future capital projects, and sometimes utilities. Common in condos, townhomes, and master-planned subdivisions. Not deductible as a personal expense for a primary residence, though they can be deductible for a rental property. Special assessments are additional one-time charges for major repairs that the reserve fund cannot cover.

Homeowners insurance

A property insurance policy covering damage to the home and its contents, liability for injuries on the property, and additional living expenses if the home becomes uninhabitable. Required by lenders for any home with a mortgage. The US average premium is about $1,800 per year, with state averages ranging from under $700 in Hawaii to over $4,000 in Florida, Oklahoma, and Louisiana.

Homestead exemption

A state or local property tax rule that reduces the taxable value of a primary residence or caps how fast assessed value can rise. Examples: Florida's Save Our Homes (3 percent annual cap on assessed value), Texas's 10 percent homestead cap, and California's Proposition 13 (2 percent cap). Investment properties and second homes do not qualify. Most exemptions require the owner to file once after purchase.

Housing-cost ratio (28/36 rule)

A common lender guideline. Total housing costs (mortgage principal, interest, property tax, insurance, and HOA dues) should stay under 28 percent of gross monthly income (the front-end ratio); total debt payments should stay under 36 percent (the back-end ratio). FHA loans permit 31/43, and some lender overlays push these higher when compensating factors are strong.

Interest rate (mortgage)

The annual percentage a lender charges on the outstanding loan balance, expressed before fees. Separate from APR, which folds in origination charges and points. Mortgage rates track the 10-year Treasury yield plus a spread that varies with credit risk, loan type, and market conditions. They do not move in lockstep with the Federal Reserve's policy rate, though the two are correlated.

Loan-to-value ratio (LTV)

The mortgage balance divided by the home's appraised value, expressed as a percentage. A 20 percent down payment yields an 80 percent LTV. Higher LTV typically triggers private mortgage insurance, may carry a slightly higher interest rate, and limits cash-out refinance eligibility. Lenders treat 80 percent, 90 percent, and 95 percent LTV as pricing tiers, with rate adjustments at each step.

Example: On a $400,000 home with a $360,000 loan, the LTV is 90 percent.

Maintenance reserve

The portion of monthly homeownership cost set aside (mentally or in a separate savings account) for repairs and replacements: roof, HVAC, plumbing, appliances, exterior paint. A common rule of thumb is 1 to 2 percent of the home's value per year. Older homes, homes in harsh climates, and homes with pools or large lots should budget toward the higher end of that range.

Mansion tax

A state or local transfer tax that applies above a price threshold, often $1 million, and often scales up with price. Examples: New York State (1 percent above $1M, scaling to 3.9 percent above $25M), New Jersey (1 percent above $1M), Connecticut (a tiered surcharge above $2.5M), and Washington DC. Typically paid by the buyer at closing, though contracts can shift the burden.

Example: A $2,000,000 condo in Manhattan triggers roughly $25,000 in combined New York state and city mansion taxes at closing.

Mello-Roos

A California special tax used to fund infrastructure and public services in newer subdivisions, generally those built after 1982. Adds to the regular property tax bill on top of any Proposition 13 limits and can run several hundred dollars per month for 20 to 40 years. Sellers must disclose Mello-Roos liability at the time of sale under California law.

Mortgage interest deduction (MID)

A federal itemized deduction for mortgage interest paid on a primary or second home, capped at interest on the first $750,000 of mortgage debt for loans originated after December 15, 2017 ($1 million for loans before that date). Only useful when itemized deductions exceed the standard deduction. Since the 2017 tax law roughly doubled the standard deduction, most US households no longer itemize.

Mortgage points

Optional upfront payments that buy down the interest rate on the mortgage. One point costs 1 percent of the loan amount and typically lowers the rate by 0.125 to 0.25 percentage points. The break-even is the number of months of payment savings needed to recoup the upfront cost. Worth paying only if the planned stay clearly exceeds that break-even.

Example: On a $400,000 loan, one point costs $4,000. If it drops the rate from 7.0% to 6.75%, monthly savings are about $65 and break-even is around 62 months.

Opportunity cost

The return given up when you commit dollars to one use rather than another. In the rent vs buy decision, it is the investment return the down payment and any monthly cost difference would have earned in stocks, bonds, or a high-yield account if the buyer had rented instead. Including opportunity cost can change the comparison significantly over a 30-year horizon.

PITI

Principal, Interest, Taxes, Insurance. The four components of a typical monthly mortgage payment when property tax and homeowners insurance are escrowed by the lender. Used as shorthand for the core monthly housing cost. PITI does not include HOA dues, PMI, maintenance reserve, or utilities, so it understates the true monthly cost of homeownership by 15 to 30 percent in most markets.

Example: A $400,000 home at 90% LTV, 7.0% rate, 1.1% property tax, and $1,800 annual insurance produces a PITI of roughly $2,950 per month.

PMI (Private Mortgage Insurance)

Insurance the lender requires when the down payment is below 20 percent of the home price. Protects the lender against borrower default; the borrower pays the premium. Typical cost is 0.5 to 1.5 percent of the loan amount per year, varying with credit score and LTV. Borrower-paid PMI can be removed once LTV reaches 80 percent and drops automatically at 78 percent.

Example: At 0.85% on a $360,000 loan, PMI runs about $255 per month.

Mortgage pre-approval

A lender's conditional written commitment to lend a specific amount, based on a verified credit check, income documentation, and asset review. Distinct from pre-qualification, which is a casual estimate with no documentation. Pre-approval letters typically expire after 60 to 90 days. Sellers and listing agents treat a recent pre-approval letter as evidence that a buyer can actually close.

Price-to-rent ratio

The ratio of home prices to annual rent for comparable properties in the same neighborhood. Calculated as home price divided by twelve months of rent. Below 15 generally favors buying; above 20 generally favors renting; 15 to 20 is a gray zone where the planned stay, rate environment, and personal factors carry more weight than the ratio alone.

Example: A $500,000 home that would rent for $2,500 per month has a price-to-rent ratio of 16.7, a borderline case.

Principal

The outstanding loan balance on the mortgage. Each payment splits between principal (which reduces what is owed) and interest (the cost of borrowing what is still owed). Early in a fixed-rate loan, interest dominates the payment; late in the loan, principal does. Paying extra principal shortens the loan term and reduces total interest paid, with no penalty on most modern loans.

Property tax

An annual tax on the assessed value of real property, set by local jurisdictions: county, city, school district, and sometimes special districts. Often escrowed by the lender and paid monthly along with the mortgage. The US national average effective rate is around 1.10 percent of market value. State effective rates range from under 0.4 percent (Hawaii, Alabama) to over 2 percent (New Jersey, Illinois).

Proposition 13 (California)

A 1978 California constitutional amendment that caps annual increases in assessed property value at 2 percent. Reassessment to current market value occurs only when the property is sold or substantially improved. Long-time owners often pay much less property tax than recent buyers on identical homes, which is a defining feature of the California market and a key driver of the lock-in effect for sellers.

Refinancing

Replacing an existing mortgage with a new one, usually at a lower interest rate or different term. Comes with new closing costs of 2 to 5 percent of the loan amount. Worth it only when the rate drop saves more than those closing costs within the planned stay in the home. The break-even is typically 18 to 36 months at current pricing.

Renter's insurance

An insurance policy covering a renter's personal property, liability for injuries to others in the unit, and additional living expenses if the rental becomes uninhabitable. Does not cover the building itself; that is the landlord's policy. Typical cost is $15 to $30 per month for $25,000 to $50,000 in personal property coverage. Many landlords now require it as a lease condition.

Standard deduction

A fixed dollar amount that reduces taxable income on a federal return for filers who do not itemize. For 2024, the standard deduction is $14,600 for single filers and $29,200 for married filing jointly. The 2017 tax law roughly doubled these amounts. About 90 percent of US households now take the standard deduction rather than itemize, which limits the practical value of the mortgage interest deduction.

Title insurance

A one-time insurance policy paid at closing that protects against title defects discovered after the sale: missed liens, undisclosed heirs, forged deeds, recording errors. Lender's title insurance protects the lender and is required on every mortgage. Owner's title insurance is optional but typical. In some states the seller pays the owner's premium; in others, the buyer does.

Real estate transfer tax

A state, county, or local tax imposed on the transfer of real property, typically a percentage of the sale price. Rates and who pays (buyer, seller, or split) vary widely by jurisdiction. Philadelphia's combined city and state rate exceeds 4 percent. Many southern states have no transfer tax at all. Mansion taxes are an additional layer applied above price thresholds.

Example: On a $1,000,000 sale in Philadelphia, combined city and state transfer tax runs about $41,000.

Underwater (negative equity)

Also called negative equity. A home is underwater when the outstanding mortgage balance exceeds its current market value. Common after sharp price declines like 2008 to 2011, when roughly a quarter of US mortgages went underwater. Selling typically requires either bringing cash to closing to pay off the loan or negotiating a short sale with the lender, which damages credit.