How To Determine The Value Of A House Renovation

by Mike Holman

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One of the great things about being a home owner is that you can spend all kinds of cash on your house and then pretend you are making money on your “investment”.  The way to accomplish this, is to complete a renovation, and then assume that the value of your house has increased by at least the amount of the renovation.

Let’s look at an example:

Mike’s neighbour:  Hey Mike, I love your new patio stone walkway.  How much did it set you back?

Mike:  I paid $2,500 to get it done, but I reckon it added $18,000 to the value of my house.  Needless to say, it was a great investment.

Mike’s neighbour:  Wow, you’re a financial genius.

Mike:  Thanks.

Ok, this example was a bit exaggerated, but it is certainly true that spending money is easier if you think you will be getting a rebate.  Even if that rebate is in the form of an increased house value.

The reality is that most renovations or fixes to a house will add some amount to the house value which could be more or less than the value of the renovation itself.  The problem is trying to determine how much.

Why should I care about this?

You don’t have to worry about the return on investment of every dollar you put in your house.  There is nothing wrong with modifying your house to suit your own needs, even if it doesn’t add to the value.  However, if you are planning to sell the house anytime in the near future, it doesn’t hurt to consider the relative merits of different renovations you are considering.

Using a calculator to determine renovation value

There are numerous “calculators” available on the net such as this one which supposedly help you determine how much of your cost will add to the value of the house.  I don’t think these “calculators” are very useful.

For one thing, that particular calculator assigns a percentage range.  For bathrooms, it gives you a value increase of 75% to 100% of the renovation value – regardless of how much you spend. So if I spend $10,000 on a new bathroom, then my return is $7500 to $10,000.  If I somehow spend $100,000, then my return is $75,000 to $100,000 which doesn’t make sense for most houses since a $100,000 bathroom would be a waste of money.

These “calculators” also ignore the value of the existing bathroom and a whole host of other factors.  The only use I can see for this calculator is that it can help determine the relative value of various renovations.  For example: it values bathroom renovations (75%-100% recoup) much higher than landscaping (25%-50%) which in general, I agree with.

How to determine the value of a house renovation

Unfortunately, I don’t have an easy formula for this, but I do have a few ideas about what to consider when trying to determine the value of a house renovation.

Age of renovation

If the renovation is brand new, then in theory, the buyer should be willing to pay the full price of the renovation, if it’s something they would have done anyway.  For example: if a new fence (where there was none before) cost $2,000, then the value of the house should increase by $2,000.

What was there before?

If you remove something that has value, then you should subtract that amount from the transaction.   For example: if you remove laminate counters in good condition from your kitchen (value $600) and install new granite tops (value = $2,000) then right off the bat, the value added will be a maximum of $1,400 assuming the buyer will pay $2,000 for the new counters.

Will the buyers appreciate the entire renovation?

Buyers don’t necessarily appreciate the cost and hassle of a renovation.  This especially applies to renovations that involve a lot of “invisible” work, such as insulation, wiring etc.  For example: you spend $50,000 on a new kitchen.  A buyer might love it, but only attach a value of $30,000 to the kitchen, because that’s what they think it would cost them to build it.

Different folks, different strokes

Not everybody values the same things in a house.  This is a big one and I think it is the reason why outside renovations tend to have a lower return on investment, compared to inside renovations.  As I said in #1 – if you add something to a house (ie new kitchen), and a buyer would have done that exact same renovation, and they know the cost of that renovation, then I think they will give the proper value (ie the cost of the renovation if it is recent).  The problem of course is that if a buyer isn’t crazy about the new kitchen or doesn’t want to pay for the extreme costs of a high end kitchen, then they won’t.  This is why more modest renovations tend to hold their value better then over the top renovations.

Another example that I’ve seen in several houses is where an owner take a three bedroom + small bathroom house and converts one of the bedrooms and the small bathroom into a huge bathroom.  This is a pretty expensive renovation since most of the examples I’ve seen end up with huge bathrooms that look like they belong on a magazine cover.  The problem is that you now have two bedrooms instead of three.  I believe that for most people, this new layout is worth less than the old layout of three bedrooms plus a small bathroom.

Even if you assume there is no loss in value, you’ve lost the expense of the considerable renovation.  In my mind, removing a bedroom to expand a bathroom is a very poor investment.

Unusual or excessive renovations means lost value

A lot of inside renovations are fairly standard.  An updated kitchen, bathrooms, nice floors, decent walls, ceilings, windows, lights are things that most reasonable buyers also want and will (hopefully) value appropriately.  The key is to keep it reasonable.  Nice new hardwood floors at $10/sq ft are likely a good investment.  Buying imported teak boards with real elephant tusk inlays at $100/sq ft might sound impressive, but most buyers will still value that flooring at the normal going rate for hardwood.

Usage is important

Outside renovations are a lot more variable.  A fence (where there wasn’t one before) is somewhat standard, so perhaps most buyers will pay for that.  Decks are pretty standard and probably add a fair bit of value, within reason.  Things like extra patios/gardens etc are very subjective – some people will love them, some will remove them after buying the house.

A pool is a great example – some people love them, others hate them.

The usage of the yard is key.  When I was single, I had mostly gardens in my small backyard and not a lot of open grassy space.  Now that I have two little kids (and no time to garden), I much prefer to have less gardens and more open space for soccer games.

Another example: my neighbours have a back yard which is beautifully landscaped.  The deck is old, but the main back yard had all kinds of nice flagstone patio stones and gardens etc.  The only problem is that they have two little kids and they are envious of our plain grass/weed yard because it’s a much better play area for the kids.  They’ve removed quite a few of the stones.

Average price in neighbourhood

Another theory I read about has to do with the price of your house compared to the neighbourhood.  If your house is worth more than the average house in your area, then the return on investment for renovations will be lower than if your house is worth less than the average.  This effect gets larger, the more your house price deviates from the average.
This makes sense to me – for most areas, people aren’t usually willing to pay a lot more for a nicer house – they would rather buy a regular house in a better area.

Conclusion

For any renovations you should consider: The value of what you are removing.

  • The value of what you are removing.
  • How standard is the reno you are doing?  Is it something a new owner would want to do themselves?  Would they spend the same amount of money you did?
  • How long will you stay in the house?  If you are planning to move within a few years, then it’s wise to consider the added value of every renovation.

What do you think?  Do you worry about the return on investment for home renovations?

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{ 21 comments… read them below or add one }

1 Mike Holman

And the comments are now open!

2 ctreit

There is one more thing to consider when you value a home improvement: the pleasure you get out of it. You may not be able to quantify it exactly or easily, but there is definitely a value there. For example, we remodeled out kitchen a few years ago and we had us in mind. We like to cook, which is why we designed a kitchen that supports cooks. I have no idea whether the next owner will appreciate the kitchen as much as we do, but that does not really matter to me now since I am not selling the place. Instead, what matters to me is the pleasure I get out of using this kitchen and cooking up lots of delicious stuff. This alone has been worth it to me.

3 Mike Holman

@Ctreit – Very true. After all if you are going to be living there for a while, you should enjoy any renos that you do.

4 Arjun @ InvestingThesis.com

Mike,
Great post. Always good to consider future buyers (even when not planning to move right away) before doing any large or ‘unique’ renovations.

5 Financial Uproar

You have way nicer neighbors than I do.

6 Tom @ Canadian Finance Blog

Is it just my computer, or is the post cut off on the first conclusion bullet point?

7 Mike Holman

Thanks Tom – apparently you are the first person to read the post right to the end. :)

8 Rachelle

Very nice Mike,

I would add how much value a renovation can add depends on how horrible the condition of what is there in the first place.

For instance having the grass mowed costs $40 (if it’s a foot high) but may actually add thousands to the value because most people won’t even go in.

So basically some items if left neglected actually have negative value so improving these items will actually put $$ in your pocket.

For example telling people that they can put in a countertop when you have a broken one, or one with a thick bead of caulk around the tap will not result in a discount of $200 for the laminate kind it will result in a discount of thousands as most people walk away in disgust. So by spending $200 you make that money back.

One place I went to actually had a broken toilet with feces in it…new toilet is less than $100, how much do you think came off the price for that little beauty.

I guess my point is…these calculations are based on the assumption that what you are replacing is ok or livable to start with.

9 Mike

Good point Rachelle. If something is really bad then it can lower the value of everything in the house. If I see an unkempt lawn and a broken toilet, I know that can be fixed easily, but I’ll be thinking “what else is wrong with this non-maintained house”.

10 Dd

Great post! I really liked how you brought up the “average price in neighborhood”. No one wants a million dollar home in a $300,000 dollar neighborhood!

11 Mike Holman

@Arjun – thanks.

@Fin Uproar – My neighbours are awesome. But they don’t think I’m a financial genius. :)

@DD – Yes, I really like the “average price in the neighbourhood” theory. If the hood isn’t that great, most people would rather upgrade to a better area, rather than upgrade the house.

12 Jessica07

I live on a homestead built in the late 1800′s. The original owners (dating back to 1873) had a summer kitchen. This is essentially an large outbuilding with a separate room for a stove, a small room for eating, and then an upstairs for the what-nots. It is not completely beyond repair at this point. I would like to restore it. How would I calculate the estimated value of such a renovation? Would it be calculated more like a shed or additional living space? My plan, if it helps, is to make it my crafts room for me and (eventually) my children on the main level, and then a cigar/sitting room upstairs for my husband to entertain. The upstairs/attic does have windows.

13 Mike Holman

Jessica, I would try to figure out what you want to do with the space and then talk to some contractors about how much it might cost.

Mike

14 Jessica07

Well, I plan on doing it all myself (I’m rather handy), so I hadn’t thought about consulting a contractor. I might do that, or even a real estate agent, and get their take on it. I was just trying to figure out the potential value on my own. The main problem I have is in determining whether this will be considered a really nice shed or be considered additional living space. Once I figure out my potential ROI, I can better prepare my project budget.

Thank you for your advice. I’ll contact them and see what they think. Your post was very helpful.

Jessica

15 Mike Holman

Sorry Jessica, I misunderstood your original comment. I thought you were asking how to determine how much the work would cost.

Yes, to estimate the final value of the reno, I think talking to a real estate agent or two might help. Some agents specialize is estimations so they might be more useful.

I’m kind of guessing here, but I would assume that if you can take the outbuilding from a bad state to something that is usable, and do it for a small amount of money – then it should be worthwhile.

I’m thinking the distance between the outbuilding and the main house might be relevant – if the building is too far away from the house, then it might not be worthwhile.

Mike

16 Jessica07

Mike,

I think you just found the key here. At the end of your comment, you mentioned the distance away from the house. It is probably the same distance to the west as one of the barns are to the north.

If I take the money I save not having someone do the work for me, and put that towards landscaping, I’ll get from it what I wanted. If I make the landscaping between the house and the summer kitchen a type of outdoor sitting room, as well, that will tie the house and summer kitchen together.

As a result, the summer kitchen will become an extension, thereby making it more livable space.

Thanks so much,
Jessica

17 A.N Rajah

Great post !!

Average price in neighbourhood – I totally agree with this because I know a friend who overdid renovation and could not get the value when she sold it.

18 Nancy

Hi
Well, here in Sacrameto, Ca. it seems like house prices are going down every time you turn around. I don’t think that putting money into a house is like an investment any longer. You know what I mean? It just seems like things are so out of wack right now. If I make improvements, it will be done the least expensive way, and only because it is something that I really want, not what the value added will be. …as the value added may be nothing.

19 Derek

We live in a mature neighborhood and are on the verge of a major renovation that will cost significantly more than the projected appraisal amount. I reasons that a large portion is needed maintenance (kitchen and bathrooms are really old/falling apart, screen porch is rotting, windows are 60 years old, etc). We love the neighborhood and want to have the dream home in the neighborhood. The end result will be “most expensive house on the block” status. I’m trying to determine if I care. The cost of renovation/construction is expensive and our house needs a ton of work to repair and modernize. Hell, we’d have to pump decent $ into it in order to get a sale anyway. Most of the homes in this neighborhood were built during WWII and thus will most likely go through renovations as they change hands from older generation to younger generation. My hope is that our MEHOTB status will gradually diminish over time. I can’t imagine moving out for another 30 years. Should I be worried?

20 Derek

I should clarify: The renovation won’t leave us with a giant mansion that is out of place in the neighborhood, and I should have said “our dream home in our dream neighborhood”. I’m not looking to have the most expensive house on the block, it’ll just end up costing us a lot to do the work we want. the previous owners did a poorly design remuddle job in the 60′s and the flow of traffic stinks.

21 Janet

So we refinanced our home to 15 yr. 2.75% MONEY took out 50K for renovations on the 20 yr old property 3000sf., that included a new kitchen with high end everything, 4″ wood flooring throughout and travertine flooring with pattern, new light fixtures throughout, new hardware throughout added french doors and made an living area wing for my son. total renovation cost 77K everything is highend. we had an appraisal done before renovations and it was 486K, we had an appraisal done for purpose of paying out of pocket expenses on credit back the new appraisal done with the appraiser having knowledge of renovations and given a cost list appraised at 486K. Since we accomplished what we set out to get moneywise and are not selling the property. I didn’t argue with the appraisal. My question is how do you get an appraiser to recongize the improvements and add the value to the property when clearly it has been renovated?

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