#Household math, #Investing - Paying in instalments or all-at-once...

Question

I pay $1,300 rent per month. If I pay a year's worth of rent at the signing of the lease, I'll pay $15,000. Is it worth it?

Answer

It depends on your particular circumstances. See below for a discussion:

Analysis

Let's first look at the numbers.

You are paying $1,300 per month, which over 12 months is $15,600 per year. If you pay $15,000 all at once, you end up saving $600 over the course of the year, or $50/month.

The question is - is it worth it?

I'm going to assume that there's little to no risk of wanting to leave or break the lease or anything like that that would cause you to want to no longer live in your apartment. And so I'll further assume that you'll live in the apartment for the full year.

One thing people will often look at is the "dollar value of savings", which in this case is $50 per month. A lot of people would stop right there and say that paying $15,000 all at once to save $50/month isn't worth it - in fact it makes no sense at all. However, I disagree with that assessment - what's being saved is $600/year (it's important to make sure the time periods with both the cost and the savings are the same time periods!)



Let's look at the percentage savings, which is the $50 savings per month divided by the $1300 monthly rent (we could also do this on a yearly basis with $600 and $15,600 - again, we make sure the time periods on cost and savings is the same):



So roughly a 4% savings.

Is a 4% savings worth it?

Keep in mind that a savings account only earns about 1.5% or so and a checking account even less, so if you have the money and it'll sit in the bank otherwise (or worse yet, it'll just get spent), go ahead and pay the rent up front.

However, if you have the ability to invest the money at a rate that is above 4%, and you have the ability to otherwise make your rent payments, then I'd say invest the money and pay the rent in instalments.

So let's walk this through:

• if you have the $15,000 available, can invest it at above 4% per year, and have a source of income that will allow you to pay your rent (and all your other expenses), then invest the $15,000 and pay the rent monthly, and
• if you have the $15,000 available, but either can't invest it at above 4% per year or don't have a source of income that will allow you to pay your rent (and all your other expenses), then pay the lump-sum rent (you'll effectively be getting a 4% return on that money)

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Questions and comments always welcome!