October 9, 2014

Love It or Lose It?

My wife really likes the HGTV shows that focus on renovation of homes. They often show the price of the home prior to repairs and then the price after repairs, which leads people to think of the fabulous profit that might be made by remodeling a kitchen, painting, adding a closet, etc.

Back in our lives, there are a few real estate companies that offer this same service to people who want to sell their home but feel they could get top dollar if a restoration was done first.

An important thing to remember is that the cost of the improvement will not return, in most cases, dollar for dollar to your investment. In fact most improvements yield far less. There are many sources on the web that discuss the return on investment for typical improvements.

Adding square footage to a home or a new bathroom are the only improvements at this time that return more than a dollar for every dollar spent.

Now let us see how this works. Suppose you have been approached by one of these firms that promises to do the remodel for your home and fund the construction, with the caveat that upon sale you will split the profits 50/50. Here is a sample scenario (no reflection on any current contracts):

Original home value: $300,000
Cost of improvements: $25,000
Promised home value: $350,000
Profit: $50,000 less $25,000 construction costs = $25,000

What is not discussed is the cost of sale of the home. Generally the fees and commission run about 8% of the sales price. Often the commission is bundled into the cost of repairs but the net result is the same. 8% of $350,000 is $28.000.00

Your half of the return on the profit is $12,500 but the cost of sale is $28,000, which mean you are out $15,500 despite the promised return. You could have sold the property without the renovation and made more money. One other thing to watch is that the original value of the property may be lowballed by the developer. It may be that the actual present value of the property is more than the stated $300,000. In this way the contract looks like something reasonable despite the fact that the profit of the renovation is being protected by lowering the present value in order to make the increase look real when if fact it may be much less. Think about this, if the initial value of the property is $250,000, the overall profit would be $100,000 less expenses of $25,000, your half being $37,500 less the $28,000 cost of sale giving you a $8,500 ‘profit.’ However, if the true current market value is higher, you are losing, not profiting. Setting the initial value may be the most important thing you need to agree on with the contractor.

When considering a renovation to sell your property take these things as part of your thought process:

WHY ARE YOU IMPROVING YOUR HOME FOR SOMEONE ELSE?

Improvements are best done for your lifestyle. No one loves your home more than you do.The improvements you may be perfect for you buy may not appeal to other people, thus making it less valuable to them and lowering its value for sale. It may be best to let them do the improvements after they have purchased your home.

WHERE WILL YOU LIVE WHILE THE RESTORATION IN UNDER WAY?

This is a cost that needs to be factored into the calculation of the cost of construction. Make sure that this cost is minimized as you may be splitting the profits, but not the costs.

OBTAIN AN INDEPENDENT MARKET ANALYSIS FOR THE CURRENT VALUE OF YOUR HOME

The renovation company has a vested interest into keeping the initial property value low. An independent market analysis from a Realtor not involved in the process will provide you a better value. If you can afford it, a real estate appraiser will do this for you as well, but they will charge you about $00 for the service; it may save you much more than that. Many Realtors will do the analysis for no charge.

MONITOR THE PROGRESS OF THE RENOVATION AS CLOSELY AS POSSIBLE

Ensure that the construction being done goes strictly to plan, with materials of quality for the price, construction crews working efficiently, inspections done per code, and as little waste as possible. That is, be the construction superintendent for you project or hire one that you can trust.

WHEN CONSTRUCTION IS COMPLETE MAKE SURE THAT YOUR HOME IS MARKETED TO THE LARGEST NUMBER OF PEOPLE AS POSSIBLE.

Just putting the property on the Multiple Listing Service is not marketing the property. Prior to entering in your renovation contract, go over what the Realtor will do to get the best possible price for your home.

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If you have any questions or comments, please let us know by responding to this post or call us at 925-308-7045.