One of most common and significant financial decisions people make is whether to buy or to rent a home. In Melbourne, a family-sized home in a suburb within 20km of the CBD costs roughly $1 million and requires maintenance costs of about $7000 per year, growing by 3% per annum. By comparison, the annual rent for a similar home is approximately $36,000. To purchase, a buyer generally pays a 20% down payment on the purchase price, as well as a stamp duty (tax) of 5.5% payable to the state government. Loans are currently available at about 3.5% interest per annum per on 30 -year loans. Suppose we are making a decision between buying or renting a house. For simplicity, we'll make the following assumptions: - Buying Option 1. The house price is $1 million. And, the house requires maintenance costs of about $7000 per year, growing by 3% per annum. 2. The buyer needs to pay cash for the down payment ( 20% of purchase price) and stamp duty (5.5\% of purchase price) and borrows the remaining 80% of the purchase price at 3.5% interest per annum per on 30 -year loans today. 3. The buyer will sell the house in 9 years. The house is the buyer's main residence, so capital gain or loss on the sale of the house will be disregarded. (They don't pay tax on any capital gain, and they can't use any capital loss to reduce their assessable income.) - Renting Option 1. The annual rent for a similar home is $36,000 this year. There is no down payment to be made for rental option. - Other than the down payment and stamp duty, all cash flows occur lump-sum at the end of the year. This means that a) we'll estimate loan repayments assuming 30 annual payments are made, the first starting in one year; and b) the first year's maintenance or rent will similarly be due in one year. (i.e., the first rent payment is $36,000 one year from now.) We'll evaluate the following scenarios: Scenario 1 - Both house prices and rents grow at 3% per annum - After 4 years, the interest rate increases to 4% per annum Scenario 2 - Both house prices and rents grow at 2% per annum - After 4 years, the interest rate increases to 4.5% per annum Scenario 3 - House prices grow at 1% per annum - Rents decline by 1% per annum - After 4 years, the interest rate decreases to 3% per annum 4. [2 mark] Supposing you view each scenario as equally likely (i.e., you assign equal probability to each of the three possibilities (i.e., 1/3) occurring in the future), which would you recommend: buying or renting? Why