Smart Money Moves for Your Home
Find out how real estate is valued and which remodeling projects payback the most at resale.
Laura Adams, MBA
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Smart Money Moves for Your Home
Today’s topic is about real estate valuation and which home-improvement projects will bring you the most “bang for your buck” at resale.
Don’t Over-Improve
One of the most important real estate tips I can give you is to never over-improve a property. Over-improvement is putting more money into your home relative to the value of similar properties in your immediate neighborhood.
In terms of getting the most value for the size and features of your home, it’s actually better not to be the biggest, most expensive house on the block. If you have a smaller or less expensive home in a neighborhood of more valuable homes, their market value will tend to pull yours up.
Let’s say you want to remodel your bathroom and it’s going to cost $15,000. Does that mean that after the remodel you can sell your home or condo for $15,000 more than before the remodel? Usually, the answer is no. You rarely get a dollar-for-dollar increase in market value from remodeling projects.
To understand why this is the case, I’ll give you a brief overview of how real estate is valued. There are three approaches or methods used by licensed real estate appraisers:
- Cost approach
- Sales comparison approach
- Income capitalization approach
The analysis and calculation of each approach results in a different valuation. The appraiser then applies a weighted average to the three numbers to determine the property’s final value estimate.
The Cost Approach
The cost approach is an objective analysis of what it would cost to rebuild the exact same structure on the exact same piece of land today. Appraisers add this replacement value to the estimated value of the land. If this were the only method used to value real estate, then spending $20,000 to upgrade your kitchen would mean your home is now worth an additional $20,000.
Sales Comparison Approach
However, the second method to appraising real estate is much more subjective than simple replacement cost. With the sales comparison approach, the appraiser considers what’s going on with recent sales in the neighborhood as well as overall conditions and amenities in the surrounding communities. A property’s market value is largely based on the price comparable properties have sold for within the recent past. If the “comps” don’t exist to support a higher home value that you hoped a remodel would bring, you’ll have difficulty selling at the higher price. This is especially true if the buyer needs a mortgage for any portion of the home purchase. Lenders rarely loan money for real estate purchases that exceed the appraised value. This underwriting guideline has become even more stringent in the current cautious lending environment that we’re experiencing now.
Income Capitalization Approach
And the last method real estate appraisers use is the income capitalization approach. This analysis determines what a property is worth based on the income it does or could generate for the owner. This approach is typically only used if the property is in a rental neighborhood or is multi-family.
These three appraisal methods are used in conjunction to arrive at a final estimated value for the owner or lender. But it’s important to understand that a property is ultimately worth no more than what a willing buyer will pay a willing seller.
Profitable Projects
If your house is for sale, consider what can be done to improve curb appeal before you spend big bucks on a major remodeling job. You may only get one chance to “wow” a potential buyer. If the appearance of your home doesn’t say, “Hey, look at me. I’m neat, clean, and well-cared for,” a buyer may take a pass before even looking inside.
- Paint is one of the least expensive, but most transformative home-improvement products known to man. Repaint any areas that are peeling, or paint the entire exterior if needed.
- The front door is usually the focal point of a home, so make sure it’s polished and clean. If you have a front porch, make sure that it looks welcoming with a fresh doormat and healthy green plants.
- Your front lawn also says a lot, so spending money on the yard will be very worthwhile. Give the lawn a manicured look with fresh mulch, pull weeds, plant new beds, remove dead tree limbs, etc.
Remodeling Cost vs. Value
But perhaps you want to remodel your home as part of a plan to stay there for the long term. Or maybe you have an outdated home that you or your Realtor® believes will not be competitive on the market as is. Consider what Remodeling Magazine says are the most profitable remodeling projects to tackle. I’ll put a link to their Cost vs. Value Report in the show notes at moneygirl.quickanddirtytips.com. The full report gives much more specific data for U.S. regions and major cities.
Here are the five mid-range projects that give real estate owners the best payback when they sell:
- Wood deck addition provides the highest return of 85%.
- Siding replacement provides an 83% return
- Minor kitchen remodel provides an 83% return
- Wood window replacement provides an 81% return
- Vinyl window replacement provides a 79% return
And if you’re wondering about the lowest value-to-cost project, that’s installing a backup power generator, which gives a 58% return.
To Remodel or Not to Remodel
New energy efficient windows will likely save money on heat and cooling bills if your home is older and drafty. Or building a new garage might save you money if you’re paying a hefty monthly fee to store your belongings. So if you plan to stay in your home, determine not only what a remodeling project will cost up front, but also what it might save you in expenses over the long run.
Administrative
I’m glad you’re listening. Find a transcript of this show at moneygirl.quickanddirtytips.com. And your email comments or questions are most welcome at money@quickanddirtytips.comcreate new email“>money@quickanddirtytips.comcreate new email.
Chi-Ching, that’s all for now, courtesy of Money Girl, your guide to a richer life
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About the Author
Laura Adams received an MBA from the University of Florida. She’s an award-winning personal finance author, speaker, and consumer advocate who is a frequent, trusted source for the national media. Money-Smart Solopreneur: A Personal Finance System for Freelancers, Entrepreneurs, and Side-Hustlers is her newest title. Laura’s previous book, Debt-Free Blueprint: How to Get Out of Debt and Build a Financial Life You Love, was an Amazon #1 New Release. Do you have a money question? Call the Money Girl listener line at 302-364-0308. Your question could be featured on the show.