Please explain remodeling 'return on investment'

taddpeakeOctober 5, 2011

I'm confused. I've read a lot on how much return on investment you can expect from such and such remodeling jobs, 80%, 70%, etc. but what does that really mean?

Say I have a house that would sell AS IS for $200,000.

Say I spend $20,000 remodeling an old bathroom for an expected 85% return on investment. $20,000 * .85 = $17,000.

Does that mean that the selling price should go up to around $217,000, meaning that I only lose $3,000 of my remodeling money?

Or does it mean that the selling price should go up to around $237,000 ($20,000 + $17,000) meaning that I actually make money from the remodeling?

I realize these are pretend numbers. I'm just trying to make sense of the math.

Thanks for not making fun of me : )

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The selling price should theoretically go up to around $217,000, meaning that you only lose $3,000.

    Bookmark   October 5, 2011 at 10:42AM
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ROI for home remodeling is hokum propagated by the remodel industry and publicized by HGTV. The numbers you are throwing around are bogus. A home doesn't exist in a vacuum. If you have a 100K teardown and put a new 20K bathroom in it, it's still a teardown. It's not worth any more because of the remodel, and in fact, it's probably worth less to the type of person that would be interested in it in the first place.

"House flipping" for amateurs who plan to make it their home is for fools. You do NOT get every expense that you put in to your home returned to you as higher resale value. A home is NOT an investment! It's a necessary expense that can occasionally also return some of that expense if it's location is chosen wisely and it's maintained in a good physical condition with current materials.

In your mythical 200K home, if the rest of the home is in good updated condition that new 20K bath might net you another 3-5K above the neighbor's similar home without the updated bath. There's no way you'll ever get 220K for a 200K range home just because it has a new bath in it. Or a new kitchen. (It may get you SOLD however.) You might get a 30K bump on a 700K home if you just put in a new 75K kitchen, but you will never get 100% of any remodel back in the very HGTV over-hyped "home value".

A home's "value" only matters at resale or refinance. And by then, that kitchen remodel you did 10 years ago isn't new any more. A home is expected to have a functional kitchen and bath, so your 10 year old 75K kitchen remodel won't get you any more at appraisal time than it would if you spend 30K instead. Appraisers care more about square footage, number of bedrooms and baths, and what your neighbor's home sold for, not what he's pie in the sky dreaming of getting.

The main reason you should remodel any home is to make it more pleasant and functional for the people who need to live in it. It will cost way more to do so than you will ever be able to recoup at resale, so major remodeling (as a financial decision) should only be done if you cannot find a home that meets your needs if you sold your own and added that 100K bumpout money to it. If the home has other intangibles that make it a desirable place for you to live, Lake location, home where you grew up, etc.) then you have to balance that out with the expense (NOT "investment") of making that home over into your vision of it.

    Bookmark   October 5, 2011 at 10:48AM
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ROI isn't hokum as a concept. Many improvements really do raise the value of a home. However, HGTV certainly have overhyped the idea. I live in a historic district. Renovated homes sell for WAY more than non-renovated. However, that is not the norm for most of the country right now.

    Bookmark   October 5, 2011 at 11:55AM
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Within a current RE bust area, you will spend more to renovate than you would pay to buy heavily-discounted existing RE.

You are smart, though, to think about what market value you will have at the end before you invest in remodeling. We've been happy to have done a teardown/new build instead of extensive remodeling. An all-new house beats most remodeled ones if you're comparing apples to apples...unless the house is historic, as in Bill's case.

    Bookmark   October 5, 2011 at 12:43PM
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If you've bought the clunker in the neighborhood, where all of the houses nearby are worth more, then it makes sense. But generally, if the neighborhood has formica counters, and you put granite counters in, you will not recoup that money. It is still a formica neighborhood.

    Bookmark   October 5, 2011 at 1:48PM
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Great answers all. I was just trying to understand theoretically what was meant when they say a certain percent ROI for home improvement, whether it was loss they were talking about or gain. It should be gain, but you never know.

It sounds like if (big if) everything is perfect, spending $30,000 with and expected 85% ROI should add $55,500 of value, netting $25,500 in profit.

IF everything is perfect, which it rarely is.

Thanks, all.

    Bookmark   October 16, 2011 at 2:42PM
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"spending $30,000 with and expected 85% ROI should add $55,500 of value, netting $25,500 in profit. "

And a net loss of $30,000 - $25,500 = $4,500 unless y\there are some other considerations (like reduced carrying cost from a faster sale).

It is VERY rare to get back 100% of the cost of ANY improvement.

    Bookmark   October 16, 2011 at 3:14PM
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Brickeye is correct. For instance you have a house that would sell for $200,000, and you spend $50,000 updating the kitchen. If the ROI in your area for such an update is 75% you can expect to add $37,500 to the price of your house, making the new value of the home $237,500, for a net loss of $12,500. In other words, don't spend a lot of money on updates and expect to make a profit. Do the updates for own enjoyment, and hopefully, when it comes time to sell, you will sell more quickly. Of course if your $200,000 home is already at the top of the market in your area, your ROI % could be much lower.

    Bookmark   October 16, 2011 at 8:13PM
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I thought ROI = (Gain from investment - Cost of investment)/Cost of investment.

It is the money you "gain" in addition to the money you invest, instead of the money you get back after your investment.

Therefore if ROI on $50K is 75%, then you gain $37,500.

The total added selling price should be $87,500 = $37,500 + $50,000.

ROI = 75% = ($87,500 - $50,000)/$50,000.

In the example terriks gave, you only add $37,500 to your selling price after you invested $50,000, then you lose money. ROI = -25% =($ 37,500 - $50,000)/$50,000

Disregard everything else, you need to find a steal in a neighborhood and carefully fix it up in order to bring the house selling price to the neighborhood norm.

You would need to make 82% ROI, then have the chance to realize 75% ROI after paying 6% agent fee and 1% selling cost (of course 6% and 1% are just assumptions).

    Bookmark   October 16, 2011 at 11:46PM
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In remodeling it is usually the percentage of the improvement cost you recover.

Spend $20,000 on a kitchen, recover $15,000 in increased value, 75%.

It is rarely 100% (or more).

    Bookmark   October 17, 2011 at 11:51AM
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Somebody, probably an HGTV employee, convinced everyone in the remodeling world to use a different meaning of ROI than the rest of the business world. azmom is right that ROI is generally calculated as net gain per dollar spent. That way, if someone says they had a 10% ROI, they actually have 10% more money than they started with. Since almost every home improvement is a money loser, the business world ROI would be negative. Somehow, you sell more if you say "85% ROI" than "negative 15% ROI". The negative makes it sound like ***gasp*** you are losing money by putting in that new, fancy kitchen. Well duh! Living a more luxurious lifestyle costs more money. It is really unusual for people to be able to make money just for living in a fancier house.

    Bookmark   October 17, 2011 at 12:57PM
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You can make it positive, but you likely will be investing a lot of 'sweat equity.'

YOUR labor is assigned no value.

I have spent 30+ years and bought and sold more houses than I can recall.

You have to buy well under the market value you will end up at, then do a LOT of work yourself (not by hiring subs to do the bulk of the work).

The majority of the houses have come from estates, and the next block is folks finally leaving their home (either commercial assisted care places or children) when they can no longer live alone.

The slang name for them is 'old lady houses.'

Many of these houses have been poorly maintained and not upgraded for many years.

You can actually make money replacing a 1950 kitchen in 2013 (you need to be cognizant of how the neighborhood has gone and match it, those houses are your competition).

I have been caught by market down turns.

You need the resources to rent the place and wait for the market to revive.
Not having overbuilt can allow a neutral to positive cash flow.
I rarely have significant repair costs when renting.
The place has already been renovated.

Tenants seem to be better behaved when the place looks new and well cared for.

    Bookmark   May 8, 2013 at 4:38PM
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