Question on a basic principle

Nick Brubaker · 2018-02-11T17:31:33-08:00

The 2017 Cost vs. Value Data (http://www.remodeling.hw.net/cost-vs-value/2017/) shows that aside from the installation of attic insulation for no other home improvement project are the costs invested able to be recouped upon the sale of a property. An average of maybe 65% of the cost is able to be recouped in most cases. This is a basic principle that I am confused about. If it is the case that money invested into a house through renovations, additions, etc. is not recouped fully or more in a sale than how do flips or any kind of renovation pre-sale (aside from insulation) make sense. Why would I put $60k into a new bathroom if it only adds $30k of value to the house (https://www.nari.org/assets/1/28/Remodeling_Impact...)? Similarly, all other factors excluded, would this mean that if I bought a house for $200k and decided I needed an additional bedroom it would make more sense to sell the house and buy a different house for $260k with the additional bedroom than spend $120k to add the bedroom to the house I already own? Have I been misguided in assuming that flips and renovations are possible because the costs invested plus an additional margin/profit are to be expected upon sale? I get the idea that if renovations that you desire are done on a house you live in long before you plan to sell it you are able to enjoy the improvements for a period, which makes up for the inability to recoup the costs fully on a sale. However, why does it make sense to do work to a house before selling it? Or why does it make sense to buy a house that needs work with the expectation that you would pay for renovations afterward when the returns in actual value/equity are not comparable?Does this make sense? What am I missing here?

Tom W.

Oak Ridge, NJ · Member since 2016 · 103 posts · 95 votes

8y

@Nick Brubaker You’re not taking into account the fact that you need to purchase a distressed property at below market value when you flip. Your profit will be made when you purchase, not when you sell. The amount you invest in repairs or upgrades will be based on what the value of the property will be after the work is complete.

2 Reply

Brian Pulaski

Flipper/Rehabber · Montgomery, NY · Member since 2016 · 2k+ posts · 1k+ votes

8y

These reports don't really fit flip criteria. Flips are bought well below retail and usually distressed. You most likely won't be doing a $60k bathroom in a flip, you will be doing a $5000 bathroom, to replace an unusable leaking mess.

Have you ever flipped?

0 Reply

Nick Brubaker

OP

Decatur, GA · Member since 2015 · 423 posts · 53 votes

8y

Thanks Brian and Tom.

Even buying a distressed party - that is priced as a distressed property - this issue would still seem to apply unless you bought it under actual value from a motivated seller or something, which I know is typically part of the strategy. That said, I'm not sure all the small-time flippers I see in my market are able to buy these properties below their market value (even if distressed).

Maybe I should be clearer about my own personal considerations. My wife and I bought a 2-bed/1-bath single family house here in Decatur (Atlanta) last August in a great neighborhood with a good amount of upside potential. Our thinking was we could buy a smaller house and if we want to expand add this value ourselves at a later date and profit from this work tax free when we sell. A form of live-in flip I guess. In addition to this our more immediate project is to convert the garage at the end of our driveway into a studio or 1-bedroom unit to either Airbnb or rent to a student at nearby Emory University. It's looking like this could cost around $75k and we could expect rents around $900. My new concern regarding return on renovation investments is that I had assumed that this $75k that we invest would add at least an equal amount to the home value itself. The house is in a great up-and-coming neighborhood. We bought it for $285k and there is a new-build house currently listed for $739k. The concern though is that we may only be living in this house for a 3 - 8 years. If we were planning on living in it indefinitely than the return on this investment would be more moot because the venture would end up being worthwhile over time simply from the rents and regular appreciation. However, if we were to sell the house after a few years and only get back maybe $40k of that $75k for this renovation it will not have paid off even with the rents collected during those few years. Does that make sense? Is this a bad plan?

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Michael Guzik

Real Estate Agent · San Antonio, TX · Member since 2017 · 523 posts · 362 votes

8y

@Nick Brubaker You are the first person that has asked this man. You seem like you are a very analytical person and are big on numbers, which is great because they are very important. However I believe like others are saying you are not taking into account that almost everyone buys property for around 70 cents on the dollar. That is just really I guess an unspoken commandment that everyone knows. If you don't buy it right of course you aren't going to make money! (Disclaimer I didn't read the articles) I don't know where they got that data but spending 60k on a restroom is absurd?! At least in my market 60k is MAYBE what you spend on the entire renovation if it is huge mansion in an A market. I rarely hear anyone say they put in over 15k into a restroom... I think you are looking at this all wrong my friend. Go to your local meet ups and network with flippers in your area and ask them this. Sit there and listen because they will provide you with real world experience and advice. I would take what you read and saw with a grain of salt, because I know several people on BP and in my market that are doing very well for themselves flipping houses even in this hot and crazy market. I would trust and believe people that are flipping and making it happen, because there is a plethora of people doing that in today's market. Just go to real estate meet ups and network man that is my 2 cents. That would be the best way to get your questions answered! Good luck brother!

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Nick Brubaker

OP

Decatur, GA · Member since 2015 · 423 posts · 53 votes

8y

Thanks @Michael Guzik. I actually have been to many meetups and talked with numerous more seasoned investors in many markets (the forums here are a variation of that as well). Which is why it is disconcerting now to be re-examining a basic principle. I doubt the typical novice (and even intermediate) investor, of which there are many these days, innately knows how to achieve 30% discounts on purchases (off the MLS in many cases). I agree that the numbers in the link might not be applicable to investor/flip scenarios. Here are a couple questions that might get closer to the heart of what I'm trying to clarify in this thread:

For the average person (non-investor) who plans to sell his/her home soon, is it financially insensible to make any major renovations before selling the property?

If the return on investment is truly made upfront in buying at a discount rather than value added than why don't flippers just sell their properties straight away upon acquisition rather than invest in the rehabs?

If anyone is willing to share thoughts on my garage conversion plan above, it wold be much appreciated as well.

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Patrice Penda

Investor · Hoboken, NJ · Member since 2016 · 464 posts · 179 votes

8y

@Nick Brubaker

To make money flipping houses, you need to buy right AND you need to spend right.

To take your example, 60k on a bathroom is a freaking lot of money.

Flippers would not make money if they spent that kind of money on a bathroom unless it is a several millions and I am not even sure.

What those reports show is if that a homeowner remodeled their house paying retail price paying more consideration to the aesthetic than the price (which is usually the case), the money spent would not be recouped in the increased in price value.

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Thomas S.

Member since 2016 · 13k+ posts · 12k+ votes

8y

In regards to a personal home, not flips, most upgrades are not done for financial reasons as they never return 100%. This is of course dependant on the community. If for example you have purchased the least expensive 2 bed in a expensive 3-4 bed community comps may suggest a much higher return than cost when adding a 3rd bedroom.

For the most part those that do lipstick reno work ahead of selling do so to make selling easier not to increase the sale price.

Flip properties and personal homes are as different as cats and hammers when it comes to increasing value. A flip is a investment when purchased properly and renovated correctly achieves a profit. A personal home is a liability purchased as a lifestyle choice.

You must thoroughly understand a communities comps.

1 Reply

Christopher Phillips

Real Estate Agent · Garden City, NY · Member since 2016 · 3k+ posts · 1k+ votes

8y

Nick Brubaker A personal residence is not an investment. Anyone doing work on their homes and continuing to live in those homes will not get their money back due to the fact it’s used by the time it’s sold. Personal residences are nothing but expenses because people need a place to live. If you wish to do an extension for your own personal use, do so. Just don’t expect it to add more value beyond the cost to install it. Flippers do two things: they buy at a deep discount and they sell completely unused upgrades. People have not used those bathtubs and showers and they haven’t used those new appliances. Flippers are also not contracting work with markups that a consumer will have to pay. A really large flipper outfit will also buy materials at discounts the average consumer cannot obtain. Also, flippers know how to use neutral design choices that will appeal to a wide base of potential buyers. Consumers tend to customize things for their own benefit that potential buyers may or may not be willing to pay for...

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Cortney Jones

Real Estate Investor · Chandler, AZ · Member since 2009 · 111 posts · 114 votes

8y

@Nick Brubaker, as an investor and a licensed Realtor, here is my 2 cents. First off, the other advice you've received is true and real. MOST investors do buy at 70 cents and they DO NOT do it through the mls. The data from the report doesn't really apply to them since they are buying at a large discount and making their money when they buy. They just receive the profits upon sale.

With that being said, your situation is a bit different since you're wanting to live in and occupy the home for some time and make some large improvements to it. The #1 thing to consider is to not over improve the home for the area. You're making a home with the idea of it being an investment ALSO.

Most investors are just buying a house at a discount and making it into something that can be sold to someone else to make a home.

So, no, you're not crazy with your ideas and numbers, but . . . as an example, if you convert the garage into a rental and every other house in the area has a garage then when you go to sell, it will be difficult to find a buyer because buyers in that area may expect a garage.

If you plan to make a 2 bedroom into a 3 bedroom then you will have to not only look at the cost of what it will be to do this, but how much more does a 3 bedroom in that area bring when selling. Remember, you can't use the house across the street as an indicator if it's not an exact comp. ( same style, same age, same approx. square footage, beds and baths) If it costs $15k to add on a 3rd bedroom but 3 bedrooms in your area are only bringing an additional 10-15k, then the extra cost, if you decide to move forward, is your cost of living, usage and enjoyment.

A perfect example of this is mini blinds. In some homes you can put in a $5 set of mini blinds and that's perfectly fine and acceptable and buyers wouldn't think twice about this. In that same house, if you put a $250 set of blinds, that's cool, you liked them, but if you try to charge an extra $4,000 for the house because it has 20 sets of expensive blinds people will laugh at you.

In my area pools are common place. If you buy a house without a pool and decide to put one in, it will cost you between 40-80k depending on how elaborate you want to get. Value wise, when you go to sell, you'll get maybe $10-13k more on a comp for it because nearly every house has one so it's expected. If you did a really great job on it, you can maybe appeal to someone's emotions and get a little more and sell a little faster, but there's no guarantee.

Make the improvements you want to make for your personal enjoyment, but without overbuilding and improving for the area and always keep in mind that you can't predict markets or values in the future.

Hope that helps.

1 Reply

Nick Brubaker

OP

Decatur, GA · Member since 2015 · 423 posts · 53 votes

8y

Thank you. Though I'm not sure I would consider a personal property to not be an investment and to even be a liability.

It seems the takeaway for my circumstances is to control costs and make sensible widely appealing choices if I do decide to put money in converting this garage to a 1-bedroom or add an additional bedroom and bath to the house itself. I hope it's fare to figure that if I bought a 2-bedroom house in a growing neighborhood with values ranging up to $700k that if I do control costs I can expect to at least have these costs made up for in a sale in a couple years if not make a modest profit.

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Nick Brubaker

OP

Decatur, GA · Member since 2015 · 423 posts · 53 votes

8y

Thanks again, particularly you, @Cortney Jones.

1 Reply

Steve Vaughan

Rental Property Investor · East Wenatchee, WA · Member since 2014 · 10k+ posts · 16k+ votes

8y

These general studies are done for Jack and Jill homeowner that wants to make things pretty or more energy efficient for the most part. 'I don't like the color of my kitchen cabinets so I will replace them' kind of stuff.

We as investors expand and change living spaces by removing walls or changing that weird 4th bedroom into a master closet and en-suite. Adding real value.

My favorites are landscaping and flooring. I can revive a front yard and put some plants and mulch in for $300, yet it adds $7000 in perceived value and curb appeal. I can rip out old carpet and refinish the wood floors for $200 out of pocket or install $350 worth of 30-yr laminate with my boys over the weekend and add $5-10k in value easily. These are 20x projects.

I also refinish cabinets and counter tops instead of replacing them. I did 7 counter tops and 7 vanities with 3 guys over a weekend in one of my 7-plexes at a cost of $500 total (the Rustoleum kits were majorly on sale). My contractor's quote to replace just the kitchen counter tops with off the shelf home cheapo formica was $4800.

Now they look like granite instead of of the burned and scarred 60s lime green that they were. Do the low hanging DIY 20x projects and let Jack and Jill homeowner replace cabinets for a more 'in' color and get a -35% return on their money.

2 Reply

Tom W.

Oak Ridge, NJ · Member since 2016 · 103 posts · 95 votes

8y

@Nick Brubaker

To expand on what I said earlier about making profit when you buy, I'll try to give an example using the numbers you have given.

If I was looking at buying a distressed property in your neighborhood and found that comparable homes in the area were selling for $739,000.00 then your home could be a possible bargain if it was selling for $285,000.00. If my total cost of renovation was $75,000.00 and it brought your property up to a comparable level of the higher priced homes, I would stand to make a nice profit.

If, however, that $739,000.00 home is new construction, has 6 bedrooms, 4 bathrooms and a 3 car garage, while yours is 2 bedrooms, 1 bath and a garage converted into an apartment, there will be no comparison. $75,000.00 won't come close to making your home equal to the other so I would not be able to expect a sales price anywhere near that.

When I find a property that I am interested in for a flip, the first thing I look at are sales of comparable properties in the same neighborhood within the last 6 months. Comparable means close to the same square footage, number of bedrooms and bathrooms, garages, etc. Then I take an average of what those homes sold for. This is the number I use as the target that I will sell my property for when its complete. Once I have that number, I deduct 30%. This covers my closing and holding costs as well as my expected profit. From that number I deduct my anticipated cost of repairs. That final number is the absolute maximum that I can pay for that property. That is why I said that you make your money when you buy, not when you sell. If you pay too much, there is very little that can be done to recover the cost.

The properties that I buy are not the move in ready type that you may have in mind when thinking about buying properties. I buy bank foreclosures that are usually in pretty bad shape. They are definitely the worst house in the neighborhood when I start. If I can buy them at the right price, and stick to my budget, I can make a profit every time.

0 Reply

Nick Brubaker

OP

Decatur, GA · Member since 2015 · 423 posts · 53 votes

8y

Thanks @Tom W. I understand all that and think it's good strategy. The question I was getting at was whether or not renovation costs can be recouped (and then some). It sounds like you are confirming that they can (at least smart expenses as discussed above), since in the cases where those numbers work you are recouping not only the repair costs but that additional 30% amount that you are requiring. Your have the classic, sensible approach - comps are key (definitely not eyeing anywhere near $739k for our house by the way).

In my particular circumstances I have begun looking into the cost to convert this garage to a studio unit with the assumption that I would at least recoup those costs if we did end up selling in the near future without benefiting from the rents for a long period. My hope is that in a neighborhood where new builds can go for $700k the value of this conversion would be assumed/appreciated by an eventual buyer. I also think there would be an appeal to a new owner who would like the idea of a starter home with in a great neighborhood for young families with a means to finance the mortgage. One problem is it's hard to find good comps for houses our size with converted garages in our neighborhood - maybe a 3 bed/2 bath would be the best comparison. Anyway, I had assumed that in our neighborhood any costs invested would be recouped, but when I talked to the realtor at the new build ($739k) that I visited this past weekend and he sent me the link above I started to feel less sure that I could count on a comparable amount of equity to be added to the property in doing this project.

As an aside, another line or reasoning I have had was that it is getting more challenging these days to find a rental property that offers greater than 1% rents. It's definitely a challenge finding low cost rentals (my preference) in appealing neighborhoods. I felt like by converting this garage for $75k, as far as the math goes, it would be like buying a $75k SFH in an in-demand neighborhood with strong rents above 1%.

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Anna Watkins

Investor · Atlanta, GA · Member since 2014 · 389 posts · 250 votes

8y

Hey @Nick Brubaker -- It seems that you're mixing apples & oranges (homeowner vs investor brain) in the thinking in your last post. Investor brain says $75k for a rental in Decatur near Emory? -- YES!! Future buyer brain says, yuk, who wants to be a landlord when I really want covered parking for my Lexus?

Homeowner brain says, I need a master bathroom with two shower heads, a Toto bidet toilet and custom tile. Investor brain says HomeDepot tile, Kohler toilet, stock vanity. Future buyer says, I like that expensive bathroom but I want a different color so I'll have to spend money to change everything, so why pay for the expensive bathroom??

You might well find a future buyer who's all over the rental unit add-on, but won't see it with investor eyes, and won't pay a full $75k extra for the bonus. That whole new/used thing is big with most retail home buyers. As you think about it, factor in your own pleasure/convenience in living in the house in the location, any income you might receive from the rental unit, and balance the personal benefits vs the strictly financial aspect.

Can you make money from the garage w/o significant investment? Kit it out with toilet & running water and rent to an artist for a studio (not a living space)? Or just rent it "as is" to somebody with a weekend convertible Mustang, or a small boat, or some other toy that needs covered parking they don't have at their own house?

1 Reply

Anna Watkins

Investor · Atlanta, GA · Member since 2014 · 389 posts · 250 votes

8y

@Nick Brubaker - another idea, but I don't know the county codes. Instead of a full sewer hookup, can you create a green "tiny house" apartment in the garage with some sort of composting toilet and running water with passive solar hot water (or small on-demand heater)? Or for the artist studio, since it's not a living space, code requirements may not even apply.

1 Reply

Hank Sacco

Norcross, GA · Member since 2014 · 54 posts · 26 votes

8y

@Nick Brubaker

I met you a few times at Divinci's and remember as very thoughful and full of questions. As many have said the cost of the improvements in your analysis are no where near reality for a flipper. My business partner and I are small time, doing maybe 2 flips per year so we don't have economies of scale but pay nowhere near those prices. Case in point, project we have going in SW Atlanta. Bought a 3/1 off mls at $72k will spend $32-$34k, ARV comps at $150k+. The rehab includes new roof, new plumbing and water heater, new furnace-A/C, open concept kitch w/ new cabinets, granite and all new SS applicances, full gut bathroom, reconfigured closets to add second full bath, new doors (in and out) new lam floors, new windows. Done right repairs and upgrades do add value.

1 Reply

Alexander FelicePro Member

Guy with Great Hair · Austin, TX · Member since 2013 · 2k+ posts · 4k+ votes

8y

A house's market value is set by it's peers. If your neighbor sells his house for 200K, you're not gonna be able to sell yours for 400K. The market dictates the value of the home, since most homes in a neighborhood are built to be similar, they are essentially guilty by association.

so if you have a house that the market says is worth 200K (in proper condition) and you spend an additional 200K to make it nice, that money will mostly be lost. It's unlikely that a buyer is going to spend that far out of spec to get a super nice house in a neighborhood that doesn't warrant that cost. So you're gonna eat the cost for improvements. This isn't news to anyone I don't think.

so if you scale that down to what you're talking about, if you have a retail house that's worth 200K and the owner puts a 15 K bathroom In it, you might get an additional 9700 (65%) for it on average. That's all this is saying.

the further you get away from the market price, the bigger the percentage of those costs are gonna be lost.

for investors its SLIGHTLY different, since you buy at a discount. Same rules apply though, if you over improve the property relative to the market price, you're gonna eat a percentage of the overage. The further away from that market price, the bigger the percentage becomes, the average of loss is 65% according to that article, which sounds correct.

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Nick Brubaker

OP

Decatur, GA · Member since 2015 · 423 posts · 53 votes

8y

Thank you. Great suggestions @Anna Watkins

@Anna Watkins

@Alexander Felice I get all that. I of course wouldn't expect to get $400k for a house on par with a $200k neighborhood. Up above I mentioned that I paid $285k and home values in the neighborhood do range up to $700k.

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Nick Brubaker

OP

Decatur, GA · Member since 2015 · 423 posts · 53 votes

8y

I'm now considering pairing everything down to the existing footprint - only 240SF. This could still end up costing $30k+/- The rents I could expect are maybe $600/mo straight rental or $1,000 with a more actively managed Airbnb.

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Anna Watkins

Investor · Atlanta, GA · Member since 2014 · 389 posts · 250 votes

8y

@Nick Brubaker - saw you've already gotten some interest in the space. Good luck!

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Question on a basic principle

Question on a basic principle

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