Appraisal 101 : Don’t Over-ImproveMarch 15, 2009
Welcome to another installment of Appraisal 101. In this edition we’ll be discussing the term “over-improvement” and highlight some tips you can practice to make sure you don’t make this mistake. This article will be especially relevant to anyone looking to invest money in improving their home. Over-improvement in appraiser speak is known as “super adequacy”.
So what is over-improvement? By definition, an over-improvement is an alteration or improvement that is made to a property where the cost is greater than the market value added to said property. If the improvement you are considering is substantially better than what is typical for the market area, you probably will not add value. In order to understand what constitutes an over-improvement, it’s crucial to understand the market dynamics of the area you are in and in particular, the ceiling. A common mistake people make is over-improving a home and then expecting to be rewarded greatly for their efforts. It is a rare instance where one can go “comp-busting” and set a new peak for the neighborhood… so don’t expect or rely on it.
Understanding market dynamics: Picture a suburban subdivision, 250 cookie cutter homes. The homes were all built by the same developer, are all 2 stories and range from 2,000 to 2,500 square feet. You purchased a home and are considering making some improvements. Here are some tips:
- Know what the ceiling in your subdivision is. If the highest sale in your subdivision is consistently riding around $500,000, we’d recommend capping your improvement budget based on this information. It’s best not to spend more renovating your home than the neighborhood cap minus your home’s present value. And that’s being generous. Most of the time you want to play it even more conservative and use the neighborhood median as your cap.
- If the largest home in your subdivision is 2,500 square feet, it’s best not to spend money on adding square footage above and beyond the cap. You’ll likely get very little return.
- If every house in your subdivision has vinyl floors, white appliances, and laminate countertops, you could be over-improving if you spend top dollar on custom tile floors, top notch stainless appliances, and granite countertops. It’s true that these improvements could make your home stand out more in marketplace, but you may not recoup the money invested.
- If you are going to add more living space, it’s best to develop an attic before a basement. By and large, above-grade square footage is more valuable than below-grade. Just make sure your attic is livable. A nicely developed attic where you can only stand upright in the middle is of minimal value.
- If you’ve ever heard the adage that it’s better to be the worst home on a fantastic block versus the best home on a mediocre block, it’s true. Keep this in mind when improving your home. The closer you get to being the nicest home around, the more your efforts (and invested dollars) will be diminished.
- In general, it makes financial sense to improve a home when the improvements bring the home up to par with its surroundings.
Here are some exceptions to the aforementioned tips:
- If you are going to derive more pleasure from your over-improvements than you lose in value, then who cares about money. Not everyone occupies homes so they can make tons of money. Lifestyle and amenities can certainly surpass investing wisdom.
- Unique (non-conformist) properties do not apply. For example, if you live in the 1880′s stone cottage that was spared during the development of a 500-home subdivision, then don’t worry about what the neighboring homes are selling for. They are in all likelihood not comparable.
- If you intend to hold your property for a very long time, then a little over-improvement today can be recouped over long stretches.
- Repairs do not count. A repair that does not return its dollar cost back to you in added value is known as “incurable physical deterioration”.
- San Francisco is a very unique City. We have few cookie-cutter subdivisions. The ceiling in most neighborhoods is more than enough to make whatever improvements you want to your home and still do okay. The principles mentioned above still apply, but I think you’ll find there is much more wiggle room in San Francisco than you would in a suburban subdivision.
*As with all of our tips, please consult an expert regarding your particular home. Each home and market is unique.
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