When it makes sense to rent

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(Money Magazine) -- In 2004, Tim Jones bought a little piece of the American dream: a modest three-bedroom home in Bend, Ore., that went for $218,000. Three years later he married and was ready for phase two of the dream: trading up. But instead of buying, he and wife Elise pocketed the $100,000 profit from the sale of their house and rented bigger digs.

Smart move. Today Jones, 36, estimates their old place would sell for only $230,000. Meanwhile, he and Elise, 37, have been paying $1,250 a month for their rental, the same as their total costs for the smaller house. "I'm not building equity, but nobody around here is," says Jones.

With home prices expected to continue falling in most areas this year and to flatline for several years after that, many people are joining the Joneses in rethinking the merits of home ownership - for now.

As a renter, you won't wind up throwing away money on eroding equity. And there's plenty of inventory to choose from, as owners who can't sell seek to rent their condos and single-family homes.

You'll pay less for the same space too. U.S. rents dipped in the fourth quarter of last year, according to the Census Bureau, and real estate research firm Property & Portfolio projects they will fall again in 2009.

To be sure, the case for renting is largely short term. Over the long haul the arguments favor ownership: You get to enjoy tax breaks, build equity, and take pride in a place that's yours.

Renters also run the risk of faulty market timing. Few expect real estate to bounce back swiftly, but if it does, prices could jump before you buy again. With that in mind, here's how to decide whether renting is the right course.

Renting makes the most sense if your housing situation is already in transition. Maybe you need to move for a new job, in which case renting allows you to test out a new location. Maybe you've already decided to sell and trade up. Or maybe you're retiring and want to trade down or relocate.

This year Cheryl Mitchell, 63, retired from her HR manager job and pocketed the gains from the sale of her three-bedroom San Antonio home. She's now renting a smaller but luxurious condo near her kids in Gainesville, Va., for the same cost. "I'm getting a lot more for my money," Mitchell says.

Determining the real costs of owning vs. renting on the kind of property you want to live in is complex. Property taxes and maintenance as well as mortgage payments factor into home-ownership costs, offset by the tax advantages (the calculator at move.com can help). But if you rent for a while, you might have to pay a couple grand to a broker, and when you buy again, you'll have to pay for another move.

To figure out whether renting is a better value than buying, the best metric to look at is your area's price-to-rent ratio, says Dean Baker of the Center for Economic and Policy Research. To figure it out, divide the price of a home you'd try to buy by the annual rent you'd pay on a comparable home. If the ratio for your market is far above the historical average of 15, says Baker, renting may be a better deal.

The longer the price-to-rent ratio stays in your favor, the more benefit you'll gain from renting. To get a sense of where your local market is headed, look at trends in home prices and foreclosure rates.

Use the Stats & Trends tool on Trulia.com to get average list prices and median sales prices within your zip code. You can find out how the rate of foreclosures is changing by county on RealtyTrac.com. Finally, consider the local economy - if your area's major employer just announced mass layoffs, home prices will probably fall further.

The desire for ownership isn't purely financial. As a renter, you're at the whim of a landlord for things like painting and home improvements. But the tradeoff may be worth it. "I don't like our beige carpets," says Jones, "but it's the best financial move for now."