Renovate for Maximum Profit Using Value Engineering
Filed under: General Renoations, Increase home value, Renovate & profit, Smart Renovations, Value Engineering
This document deals with increasing the market value of residential properties, particularly single family homes. The document first introduces the concept of market price and market value and what the difference is between the two. Then, it mentions various approaches used to determine valuation for single family homes. Next the document clarifies the difference between improving market value and improving home image. Finally, the document deals with increasing the property value through smart home renovations and value engineering.
Market Value vs. Market Price
Market value of a single family home (SFH) is the average value of similar properties sold near the said property. Market price is the price at which a house is listed or sold. Market price of a particular home may differ by a large margin from the market value of homes in that neighborhood. There are several circumstances that may impact the market price of a particular home. For instance if a home owner is moving to another city or due to some unfortunate circumstance such as an illness needs money quickly, the owner may opt to sell his/her property below the market value. Conversely, a home buyer due to purely emotional or personal reasons chooses to pay above the market value for a specific view or interior look of a home. Therefore, market value is the true indicator of how much a home is worth. It is critical to understand that appraisers and lending firms use market value not market price. Just because an emotional buyer is willing to pay 50% above the market value, the lending institution will not lend based on emotions, but based on the market value of that property. The buyer either has to pay extra money from his pocket or curb his/her enthusiasm for that property.
Approaches to Market Value
In respect to home valuation also referred to as appraised value, there are two main approaches used by real-estate salespersons and appraisers alike. The first is referred to as cost analysis and the next approach is called direct comparison or (Comparable Market Analysis) CMA. The cost analysis deals with the cost of building the existing structure (also known as replacement cost) and then factors-in depreciation to reach market value. However, the most common approach used in the market by most practitioners to determine the value of a single family home is direct comparison or Comparable Market Analysis (CMA). CMA looks at like properties sold near your home to determine the value of your home.
Improving Home Image vs. Home Value
Any improvement done to a property improves the overall image of that property. Whether these improvements increase the market value of that property is completely a different story. You can cut your lawn, remove the trash off your back yard and paint the dinning room. These tasks no doubt improve your home’s image and can increase the marketability of your home as it makes your home more attractive. However, it is unlikely that the appraiser or the bank give your home a higher appraised value just because you have cut the lawns, took out the garbage, washed the dishes or painted the dining room. As said earlier, the appraisers do not judge your home value based on emotions but based on intrinsic improvements done to the property
Many sources incorrectly state that the market value of a home is increased through such improvements. It may be that a buyer is moved by your home image; however, it is the home image (not the market value) that has been improved. It is strongly recommended that you make all efforts to improve the image and marketability of your property. However understanding the difference between improving market value and improving home image is critical when you are looking to improve the market value of your home.
Increase home value through Value Engineering
It is paramount to understand that not all renovations increase the value of your property. The location of your property has much to do with what renovations will increase its value. For instance in one area converting a bungalow to a duplex can drastically increase the value of that property; in another neighborhood that is home to senior citizens, building an additional floor to convert a bungalow to a duplex, does not bring any value; in fact, it may lower its value. Thus, pay attention to what improvements increase the value of your property
Since home renovation is a skilled operation not every home owner is able to carry out these renovations. Also renovations can be costly; therefore, before you jump into home renovation, find out whether there is room to profit. To find out whether there is room to profit, take a look at sold prices of renovated like properties near your home. Notice in the paragraph above the word like properties is stressed. The reason for this is that you need to find properties that are similar to your home. For instance: if the land where your home is build upon is 50 X 100, it does not make sense to compare your property with another that sits on a 5 acre land as you are not able to enlarge the land dimension of your property. In the same way if your property is zoned for single family with living space limitation of 3000 Sqft, it does not make sense to compare it with another property that has more flexible zoning regulations. Obviously not every home is going to be identical to your home but minor adjustments can be worked out as explained in the next paragraph.
The next step is to determine what renovations will add value to your property and how much. The easiest and most efficient way of going about this process is to contact a qualified appraiser to find out from him/her what renovations in your particular area will add value to your property and how much. Even though you may have to pay any where from $100-$500 for this service, this investment is well worth it as it can save you thousands at the end. The appraiser may be able to provide you with some documents and guild lines that will indicate the approximate value for each addition or modification. For instance, the document may outline that adding a second bathroom for properties like yours will improve the price by an additional $10,000 or an updated kitchen can add $15,000, a second garage $5,000, a fire place $12,000, Full finished basement $8000.
The next step is to determine how much these renovations would cost. If you are not a handy person, then you need to obtain price estimates from at least three different qualified contractors that you have screened to find out exactly what would be the cost of each improvement.
The final step is to determine what renovation will maximize your gain and which renovations result in a loss. For instance is it best to build a second bathroom or build a fireplace. Can you make a profit by adding a second garage? Would it make sense to finish your basement or leave it the way it is? If the price to renovate your basement is about $10,000 and that would increase your home value by $8,000, does it make sense to renovate your basement? Obviously that would not only be a waste of time but also waist of money. If the cost to build a fire place is $7000 and the cost to update your kitchen is $15,000, which renovation should you choose? According the advise of our professional appraiser, updating the kitchen will not make us any profit where as we can make about $5000 by building a fireplace ($12,000 – $7,000). This analysis is referred to as Value Engineering as you are evaluating and determining what renovations will add the most value. This becomes even more critical for folks who have a set budget and need to know what renovation will result in maximum profit. Value engineering has been the weapon of success for most professional renovators and construction companies and now you can also benefit from this process.
Many home owners have gone through the process of hiring contractors to do extensive renovations without any regards to value engineering just to find out that after spending much time and money, they were unable to make any profit or the profit margin is much smaller than anticipated.
Again, it is immensely important to understand that what adds value and how much varies from area to area and neighborhood to neighborhood. Hope this document has been helpful and I look forward to hearing about your comments as well as your success story.