Will Remodeling Return
The Cost of Investment?
Forget stocks and bonds. My biggest investments have been wallboard and plumbing fixtures.
Except, of course, these aren't investments.
So far, I have had a new bathroom constructed, central air conditioning installed, one closet built and another expanded. And there is still the attic to be finished, which should happen shortly.
Yes, all of these projects will add to my home's value. But no, I won't recoup the full amount spent. In fact, I consider remodeling to be the financial equivalent of buying technology stocks in March 2000. You haul out your checkbook and you kiss your money goodbye.
This isn't the prevailing wisdom. Ask folks about their home improvements and they will tell you it is money well spent, because their house is now worth so much more.
This is nonsense. Think of your home as akin to a stock, one that both generates capital gains and also delivers a dividend. But in the case of a house, the biggest part of your gain will likely come from the dividend.
What dividend? If you rent out a house, your dividend is the monthly check you get from your tenant. If you live in your own home, your dividend takes the form of what economists call "imputed rent," the fact that you get to live in the house rent-free.
Meanwhile, the capital gain from a house is relatively modest. According to Freddie Mac, over the past 27 years, home prices have appreciated at 5.8% a year. That is 1.2 percentage points a year faster than inflation.
Now, consider what homeowners have to spend to garner that 1.2%. There are regular home-maintenance expenses, including costly jobs like painting the house, putting in a new furnace and replacing the roof. These costs might come to 1% or 2% of your home's value each year. Subtract maintenance expenses from your home's 1.2% price appreciation, and your house is likely lagging behind inflation.
Most of us don't stop at maintenance. We also fork over serious money to improve our homes. What if you take your home's original cost, add the cost of all improvements and repairs, and then compare this sum with your home's current value? It doesn't bear thinking about.
But I decided to anyway.
I bought my house in 1992, when property prices were in a funk. Since then, the area where I live has seen property prices climb at a decent clip.
So how much have I made on my house? I have kept paperwork on pretty much every home improvement and repair I have made, everything from the sunroom addition to the occasional visit by the plumber. A few weeks ago, I sat down and toted up the cost of all these projects.
There is a limit to the gory details I am willing to reveal. But put it this way: If I take my home's current value and compare it to the price I paid, plus the cost of all improvements and repairs, I figure I have a gain of maybe 25% over the past 10 years. That is slightly less than the total 28% inflation rate over the same period.
Surprised? If anything, I have probably done better than I could reasonably expect. We know home prices are unlikely to outpace inflation, once maintenance costs are figured in. Meanwhile, an annual survey by Remodeling magazine suggests you might recoup 70% to 80% of the money spent on home improvements, and that assumes you sell a year after making these improvements.
But that doesn't mean home improvements are a waste of money. Remember, the biggest return from homeownership is the dividend, whether it is the rent you collect or the ability to live rent-free. If you fix up your house so that it is a more pleasant place to live, you boost the value of that dividend.
Still, it is worth keeping an eye on the bottom line. To that end, here are four pointers:
Even though home improvements are a big money loser, they may make financial sense if the alternative is trading up to a bigger place. Adding on can be cheaper than moving on, once you figure in the exorbitant cost of buying and selling homes.
If you are in the market for a house, consider buying a home that has already been fixed up. That way, you may be able to purchase the owner's costly improvements at a steep discount.
You are more likely to recoup a decent chunk of your home-improvement dollars if you take the worst house on the block and fix it up so that it is comparable with nearby homes. By the same token, avoid improving a house to the point where it is far grander than anything else in the neighborhood. That can be a real money loser.
Don't make home improvements with the sole goal of boosting your home's value, because this gambit will almost certainly fail. Instead, you should undertake only those projects that will give you pleasure commensurate with the dollars spent.
Email your comments to rjeditor@dowjones.com.