Case Study - Home Value vs Lot Value in Metro Houston
It is fairly common knowledge that if you keep up with home product replacements and home improvements such as a new roof and painting your home when needed, you will optimize your home's value when you sell. It is also commonly understood that certain types of remodeling projects can also increase your home's return on investment better then others. The best financially performing renovation projects are kitchen remodels, bathroom remodels, a new roof and new windows.
These types
of generally accepted remodeling practices are very good rules of thumb but do
not always apply as the best performing home remodeling solutions for older
period luxury homes in metro Houston. Period vintage Houston homes are often in
a class of their own. They have special economic factors that newer homes in
outlying areas are not exposed too. We will examine these factors and discuss
some special remodeling projects that can optimize and increase your older
home's ROI.
We will
restrict this discussion to metro Houston and close in neighborhoods, where it
is common to find homes build before 1970 on lot sizes larger than 6,000 sf.
These home's architectural styles are fairly consistent with the decade they
were built. You can expect to find the majority of the architectural styles
represented by traditional two story homes from the 1920 - 1940 periods and
single story ranch and bungalows from the 1950 - 1960 periods.
Lot Size /
Home Size Ratio's
As anyone
that travels around the central Houston area has noticed, there are many homes
being build where older existing homes once stood. In many cases when the deed
restrictions will allow, there are multiple homes being constructed on a single
lot that once only had one home. You are also likely to notice that that the
majority of these new homes are 3 to 5 stories tall. This is due to the price
increases of land over time.
Urban land
values have steadily increased in price over the years outpacing the value of
the unmaintained and ruinous homes that were once located there. Developers and
home builders buy the land and subdivide the lot to put multiple homes on the
property. This is economically significant because it illustrates a changing
dynamic in home ownership on medium to large size lots.
Let's take a
modest vintage home in a nice upscale metro Houston area. It is a 2 story home
about 2,000 sf living area on a 8,000 sf lot. The value of this home is
$1,000,000 and it has been well maintained over the years. One look at the
appraisal districts value assessment will immediately send off a few red flags.
The appraisal district has the home valued at $800,000 for the land and
$200,000 for the home. This home could never be replaced for $100/sf. Although
there is a case to be made on the behalf of the appraisal districts valuation,
this property has fallen victim to the land value dynamics of land prices
outpacing home values.
There are 2
value increasing strategies that can be applied to this property. The first is
obvious, sell the property for land value. The owner will not receive top
dollar but can comfortably receive their equity and not spend any additional
capital on this home. The buyer is likely to tear down the property and build a
much larger home that resolves the imbalance issue of lot to home value
relationship.
The second
value increasing strategy is to increase the overall size of the home. This can
be accomplished by adding a room addition or in this case a home addition. We
will explain this more further on in this article. When you add an home
addition the unit home price decreases, while the overall property price/value
increases. This effect causes the home's unit price (Market Value / Living
Square Foot) to adjust in line with the average value prices of the
neighborhood.
This value
effect is due to a natural economic factor of home size to lot size. As the
building lot value increases in price so must the size of the home in order to
uniformly increase in market value. If the home does not increase in size as
the price of land increases, the house will ultimately become economically
obsolete or irrelevant.
So what do
you do if you are faced with this dilemma? This is a challenging situation to
face and the solution is a complex matrix of possible scenarios. It starts with
understanding your financial position. How much equity is built up in the
property and what is your ability to afford a larger house payment. We will
assume for this article that you have equity and you are evaluating what
options you have. It also has to do with the emotional investment you have in
the home and neighborhood. It is not always easy replacing a home or a
neighborhood you enjoy.
Expanding the Homes Living Area
There are a
number of strategies to employee in expanding the living area of a home. There
are also various cost associated with the different strategies in expanding the
home. The most cost effective method of expanding the living area of a home is
to repurpose non air conditioned space to living area. Under roof areas of
porches, garages and attic space are good candidates for this type of
remodeling project. With the cost of the structure already capitalized, the
cost of building out these types of spaces is dependent upon the finishes you
choose to use.
The second
most cost effective home expanding strategy is referred to as a room bump out.
This is when you design a room expansion that actually bumps out a portion of
the home's envelope without actually building an room addition. An example of
this would be a room that might require an additional 3ft to 5ft for storage or
better accessibility to other rooms. The cost of this strategy varies and is
dependent upon many factors. The expense of a bump out on a wood subfloor is
more cost effective then one that requires expanding the concrete foundation.
The third
living room expansion strategy is adding a room or home addition. This is the
strategy that most people use when attempting to add a large meaningful space
to the existing home. There are many factors to consider when evaluating
expanding your home through a home addition strategy. The designer must first
consider the structural impact of attaching an additional structure to the
existing envelope. There are some major concerns to attend to like attaching
rooflines and mechanically attaching the foundation.
One of the
complications that arises in designing the home addition is when you are
required to reroute utilities that are in the path of construction. This
includes yard lines and overhead lines that attach to the home. A great deal of
planning and coordination is required to reroute utilities that could become a
major disruption to the owners if not executed properly.
The cost of a
room addition or home addition will vary greatly with the required needs of the
design plan. The cost to expand a kitchen or bathroom is triple the cost of
adding a bedroom or family room. There are many other major factors that affect
the total cost of an home addition. Some of these evaluations involve
determining the need for additional air conditioning capacity, new electrical
demands that could require upgrading the electrical panel service and the
adding of new plumbing needs.
Tear Down the Existing House and Build a New
Home
The greatest
market value of a metro Houston home is the location and land that it is built
on. If you have been in your home for a number of years and have found yourself
in the imbalanced lot to home value ratio dilemma, you actually have 2
additional strategies available instead of home additions. The first is an
outright sale of the property on the open market. In the example we used
earlier it is possible to obtain the going market price for your property.
Depending on the current demand conditions of the housing market will dictate
if you realize a price above or below the market.
The second
strategy associated with leveraging the land value of your property is to
design a new home for the existing lot. There are a number of advantages to
this strategy that outweigh the disadvantage. The disadvantage is that you will
likely spend a great deal more money building a new custom home on your lot
then you would remodeling the existing home. Although the actual market value
will be 20% - 30% greater when you build a new home over an equally impressive
home renovation.
The
advantages of building a new home on your existing lot are numerous. First you
can live in the existing home during the early planning and design phase of the
new home building process. Although you will be required to find temporary
housing from demolition through the end of construction phases. This allows you
to enjoy the process more when you do not feel the urgency to complete all of
the required task associated with design and product selection on someone
else's schedule.
Secondly and
most importantly, there is a substantial financial gain that occurs when you
build on a lot you already own. A homeowner in metro Houston will usually
experience substantial equity build up in the value of their property from
price appreciation overtime. These capital gains are in affect lost during a
transaction that involves the selling of your property and the purchase of a
new property. This means that the capital appreciation gains you experienced in
your existing home are nullified by the same capital appreciation that the home
you are purchasing experienced through the same period.
In addition,
you will experience further transactional expenses associated with the sale of
your property in the form of sale commissions, closing cost and finance cost.
When you elect to build a new home on your lot you will save the expenses of
(8% -9%) the sales price and experience a cost savings from eliminating the
lost transfer value of the capital appreciation you have earned. Depending on
how long you have lived there and the developments in the local economy during
that period will determine the value of your value appreciation. According to
the HAR (Houston Association of Realtors), West University which we used in our
example has seen price appreciation in the range of 30% the past 5 years. That
represents nearly a grand total of 40% of the estimated market value of the
property. In our example that equates to about $400,000 in gains that do not
get forfeited due to buying a new property.
Lastly, you
are able to maintain your relationship with your neighborhood and not to be
forced to develop new routines for shopping and dining needs. By electing to build
a new home or to remodel your existing home, you will obtain all your earned
equity made on your property and can enjoy watching it grow at even a greater
rate of return.
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