Why would a homeowner spend more than $250,000 on a renovation project for a house that has lost more than $300,000 in equity during the previous two years? Because, in certain cases, it makes financial sense!
I recently joined a sales call where a Los Angeles homeowner was reviewing a remodeling project that was going to cost more than $250,000. The economic downturn has hit Los Angeles especially hard because of the highly inflated home prices in the area. The homeowner estimated his home lost more than $300,000 in equity during the previous two years.
The 30-year-old house features numerous 1980’s architectural elements that are dating it. However, the home is located in an upscale area that has witnessed some construction activity, including a whole-house renovation and demolition of an existing home with a new one built in its place.
The homeowner’s profession is financial management; he assists wealthy individuals with managing their money. Therefore, he approached his potential home renovation like any other financial analysis. His cost/benefit analysis went like this:
- He could sell his home in a discounted market, take the loss and buy a new home. Because of existing conditions (a $300,000 loss in equity), along with outdated finishes and the cost of moving, he calculated his overall costs to move in the depressed market would approach $500,000.
- He could spend $250,000 on his existing home and absorb the existing $300,000 in devaluation for a $550,000 total cost.
To assist him with his analysis, the homeowner considered the two homes in the neighborhood that had recently undergone major renovations. These recently updated homes gave him some indication as to what his future value might be on a cost-per-square-foot basis. The homeowner thought about his work with the stock market. From a financial perspective, he won’t sell a stock when it is down in value. If he thinks the stock will come back, he holds onto the asset until the market gets better.
There are some additional factors: The homeowner likes the area. There is no crime, and he enjoys his neighbors. A renovation would allow him to maximize his investment while buying another home may not guarantee this. He also could end up spending additional money on the new home.
Investing in his existing home means the homeowner is making a financial commitment to stay in his home for the next five to 10 years. He has no idea when the real-estate market will come back or whether prices will recover.
However, he understands the longer he stays in the home, the better chance he has to recover his investment. At the same time, his customized improvements will allow him to enjoy his remodeled home.
I share this story because there is remodeling opportunity! The remodeling market has not gone away. From one point of view, real-estate values are down, homes are not increasing in value, money to finance projects is much harder to get, and homeowners and banks are being very cautious about investing money in homes.
With that said, these homeowners still own their homes and the homes still need work. Owners who can’t sell their homes are now looking at staying in these homes for the next five to 10 years. It could be that long before the market recovers. Can you help potential clients with this kind of financial analysis? Can you and a good realtor assist homeowners in your area to determine what improvements make sense for the long run? What are the specific improvements your area would support? What is the maximum dollar amount someone should invest to not “over improve” his or her home?
Good remodelers are changing their business model to respond to the new economy. It means being more proactive. It may mean helping homeowners manage and improve their investment. Who better to do this than you?