If you are considering doing a big home improvement job think very carefully before signing on. Besides the huge financial costs, remodeling can wreak havoc on your life and turn it upside down.
This is not to say that home improvement is always wrong. Just be careful not to get carried away thinking about what the house will look like when the project is done while ignoring all the real costs. Let’s go through a few of those costs now to help you stay grounded.
1. Contractors & Materials – The Extras
Contractors and materials costs are the most obvious expenses. But what may not be so clear are the upgrades, change fees and overruns. I am not a contractor but I know from personal experience and talking to many people who have gone through a major home project that these “extras” can really add up.
The best way to minimize these costs is to read up on the project on your own time. Talk to other people who have had similar work done. Go out and look at a few of the finished projects your contractor has completed and ask lots of questions.
Of course you should deal with the issues of price increases in the contract you sign – and get your lawyer to review it of course. Even though the contractor may seem nice and honest, make sure they are on the up and up. Your best defense against these charges is to arm yourself with lots of knowledge and education.
2. Opportunity Cost
Please remember that when you say “yes” to one thing, you say “no” to something else. If you sink $15k to $30k (or more) into your home, that’s money that won’t be working for you in other investments.
Even if the house appreciates, your home improvement project may not add to those increases. In fact, most don’t even pay for themselves. Studies show that the most popular remodeling jobs add less to the value of the home than they cost.
Let’s get back to opportunity cost. Assume you sink $15,000 into a bathroom remodel. According to the report I referenced above, that will increase the value of your home by about 70% of what you put in – or just $10,500. If the house then appreciates at 3% a year, the value of your investment will be about $12,900 in 7 years – just about the time you’ll probably move. And just to be clear, that’s $2,100 less than you put in.
If, on the other hand, you invest that money in a broad-based market index and earn just 6%, your $15,000 could grow to approximately $22,500 over the same time period. That’s a difference of almost $10,000 friend. That’s another cost you have to include when you calculate what the total expense of the remodel truly is.
3. Interest Costs
If you borrow to pay for the job, you’ll have to add this cost in as well. Make sure you calculate the total interest you’ll pay over the life of the loan. Even if the rate is low, you might be surprised at the total cost of your loan.
Note: If you are sold on the home improvement job and are going ahead with it despite the cost – make sure you finance the project at the lowest cost possible. Many times you can get conventional low-cost loans or home equity lines. If these are not options and you don’t have the money yourself, consider using a peer-to-peer lending service. If you have decent credit, you’ll probably be offered rates which are much lower than the credit card company.
4. Diversification/Risk Costs
When you pour more cash into your home, you concentrate your risks in that one asset. That could be fine – or it could be catastrophic. Your home has probably been a good investment for you over the last several years. But there have tough times too. Just think back to 2006 through 2009 when home values plummeted – in some places they dropped more than 70%.
While I don’t believe the risk of something like that happening soon are high, I can’t rule out a price correction in property. And if you are thinking about putting money into a remodel, you can’t rule that out either.
This risk is greater if you finance the work. If there is a recession and you lose your job, you may find it more difficult to repay that loan. If that happens, you run the risk of foreclosure.
I’m not saying these things are going to happen. I’m saying that a prudent person has to consider these risks before making a huge financial decision.
From a financial standpoint, most home improvement jobs aren’t worth it. Of course many realtors will tell you the work is a good investment but that may be because they want a higher commission or to sell the house faster. We already know that most jobs don’t pay for themselves.
But it still might make sense to have the work done. You deserve to love the place you live in. If the project is big enough, you’re usually better off by moving. But if the home improvement project is moderate in scope, you can afford the real costs and are comfortable with the risks, go for it. Money isn’t everything.
Are you thinking about doing some remodeling? Are you comfortable with all the costs?