If you want to make lots of money in real estate, you need to focus on expansion. If you can reclaim livable space or expand your property’s livable space outside its footprint, you will almost always make more money.
The key is in comparing your building cost to your property’s selling cost on a price per square foot basis. If you can build much cheaper than the current market selling price, then you’ve got yourself a great way to make lots of money in real estate.
The reason why remodeling and expanding is so popular in expensive cities is exactly due to this pricing arbitrage. Let me share with you an example of how I made money in real estate by expanding the livable square footage of a house.
How To Make Lots Of Money In Real Estate: Expand
In 2014, I bought a fixer for about $714 / square a square foot in the Golden Gate Heights neighborhood of San Francisco. Nobody really knows where the neighborhood is, and that’s just the way I like it because everybody eventually will! Golden Gate Heights is just several blocks west of UCSF and has homes facing the Pacific Ocean.
Real estate is my favorite asset class to build wealth because it is tangible, inflates with inflation, has preferential tax benefits, and provides an income stream if rented out.
When I buy real estate, I’m the CEO of the property. When I buy a stock, I’ve got to trust the CEO and his or her management team to execute. Sometimes the CEO is great, sometimes the CEO sucks wind, yet still gets a multi-million dollar exit package that makes me sick.
Nobody cares more about your money than you. Hence, the goal for wealth builders is to own investments where you can better control the outcome. And if you can’t own investments that you control, let someone you trust manage your money if you don’t have confidence in managing your money yourself. I trust myself to work harder and scrutinize expenses and revenue more than anybody. My bottleneck is time.
In this post, I’d like to point out a very important rule before buying any single family home. If you follow this rule, I’m confident with the right execution, you will be able to make far more money than if you didn’t.
Buy Property With Expansion Potential
Buying in the best location possible is the most often sited home buying rule. But the thing is, great locations are expensive. If you can’t afford a property in a prime location, then look for property in an “undiscovered” or “up and coming” location that you think will be in high demand.
10 years ago, nobody really wanted to live in the Mission District, San Francisco. Now, the Mission District is at the center of the San Francisco real estate conflict between techies and long-term residents. Rental and property prices have skyrocketed.
Besides buying in a good location, I think an equally important rule is to buy a home with expansion potential. A lot of people get carried away with the cosmetics of a home. They get “fooled” by the fancy staging, nice floors, and brushed nickel.
But if you’ve ever remodeled a home, you will know that everything is replaceable, and doesn’t cost too much. If your home burns down, not to worry. You’ve got home insurance to help you with the rebuilding cost. No? Call your insurance company ASAP!
Not only should you buy a home with expansion potential, you should consider buying a home in the most expensive neighborhood with the largest expansion potential possible. Let me explain two very real examples of how to make lots of money in real estate.
Related: Why Home Remodeling Always Costs More And Takes Longer Than Expected
How To Make Lots Of Money In Real Estate Example #1: Golden Gate Heights neighborhood in San Francisco
Value: Back in 2014, most GGH homes sold for between $650 – $850 / square foot, depending on location and view. The price is relatively inexpensive compared to everywhere else in the city. If I was a real estate agent, I’d use my language skills to convince every foreigner to buy in this neighborhood, especially the Chinese.
Cost: The building cost per square foot can be as low as $150 a square foot up to $350 a square foot. $150 a square foot is for a simple room with electricity and no plumbing. $350 a square foot is for bathrooms and kitchens. According to the National Association Of Homebuilders, the national cost per square foot to build is only $80. But I challenge anybody to get a price that low and be happy with the results.
Profit: $650 (low end selling) – $350 (high end construction) = $300 for an 85% profit. $850 (high end selling) – $150 (low end construction) = $700 for a whopping 467% return. Just to be conservative, always add 50% more time and cost to your project to stay sane and conservative. Even if costs balloon to $525 / sqft, the low end return would still be $125 or 24% ($650 – $525).
How To Make Lots Of Money In Real Estate Example #2: The Marina neighborhood, San Francisco
Value: Back in 2017, most Marina homes sell for $900 – $1,200 a square foot, depending on location and view. The prices are high, but still so much cheaper than prime property in Manhattan, Hong Kong, Singapore, and London where price per square foot are in the $2,000 – $3,000+ range. San Francisco is one of the cheapest international city in the world.
Cost: The cost should theoretically be the same $150 – $350 in the Marina as it is in GGH. They are only 3.5 miles away from each other. A tub costs the same online wherever you order. Imported Spanish porcelain tiles are also the same. Lumber, sheetrock, copper pipes, and paint all cost the same! Unfortunately, contractors tend to charge more for their labor when they know you have a more expensive home. This is one of the reasons why some contractors gain a poor reputation. The build price per square foot in the north end of San Francisco is closer to $300 – $500 a square foot.
Profit: Let’s say you go high-end and spend $500 a square foot and sell your house for the low end of the range at $900 a square foot. Your profit is $400 a square foot, or a 80% return on your money. If you’re able to build at the low end for $300 and sell for $1,200, then your profit is $900 a square foot, or a 300% return on your money.
Make Money In Real Estate Through Property Value Arbitrage
I’m currently working on example #1 by expanding my old bathroom from a tiny 36 square feet (6 feet X 6 feet) to a large 165 square feet master bathroom. Yes, 165 square feet for even a master bathroom sounds a little absurd given average master bathroom sizes are usually under 120 square feet, but hear me out.
I’ve got a 33 foot long garage that can only accommodate one car. I could fit in a mini and a compact car, but I don’t want two cars, and there is plenty of street parking.
As a result, I decided to reclaim as much of the garage space (not livable space) as the Department of Building Inspection allows to build my master bathroom (livable space that gets included in the sale).
I’m currently spending around $310 a square foot all-in to build the master bathroom. I’ve decided to go all out with dual 10″ rain showers, a six foot long 10-jet blogging hot tub, an electric toilet seat with water spray, some nice Spanish tiles and fixtures, a seating area, and a large closet.
This is going to be the bathroom of my dreams where I can hang out for hours on end. When I left Corporate America in 2012, I would spend easily 2-4 hours a day in my old jacuzzi tub writing and reading. It was something I truly enjoyed.
To improve the value of your home, you should try and create as many sanctuaries as possible. This is especially true since we’re all spending so much more time at home post-pandemic.
Good Value In Expanding In Real Estate
At a $310 per square foot build cost, I will end up spending roughly $51,150 for the bathroom. Although this may sound like a lot of money given it’s $31,000 more than my car, I’m creating an extra 129 square feet of living space (165 – 36).
Even if my sell my home for a static $714 / sqft, I’ve created an estimated $92,364 in value for a $42,364 profit in the three months it takes to build. A 85% return is pretty darn good for such a short period of time.
Once I’m done with the bathroom build, I am strongly considering building out another 750 square feet out back on two levels. My lot is very deep, and San Francisco allows you to build up to around half the area size of your lot.
What’s the obvious problem? MONEY!
Building out 750 square feet of living area will cost me roughly $150,000 in extra cash. But if I succeed in the grand expansion, then I will have created an extra $535,500 (750 sqft X $714) in value to my house for a profit of $385,500 or a 257% return in what will probably take 7-11 months. Of course, I may not want to sell, and just enjoy the view and hot tub forever.
What goes into the cost of remodeling?
- Architectural and engineering drawings
- Electrical, building, plumbing, mechanical permits
- Material costs such as lumber, paint, doors, windows
- Labor
- Overages because something always comes up
Related: Remodel A Home With Permits Or Without? The Pros And Cons
What are the downsides to expanding?
Higher property taxes: Once your project is finished, you will be assessed property taxes based on the construction cost of your expansion / remodel for as long as you own the home. The upside is that the construction cost is cheaper than the purchase cost as I’ve demonstrated. There’s no escaping taxes!
Cash flow risk: Be careful not to take on too big of a project. The worst is if you run out of money and another downturn strikes that forces you to sell. Manage your liquidity like a scrupulous financier. If you get in trouble, you may have to take out a HELOC, borrow from friends, or try to at the very lease, refinance your mortgage to improve cash flow before giving your property up to vultures.
Usually Better To Expand And Remodel Than Buy
Dealing with contractors is a tricky business. Once you get a solid contractor who is reasonably priced, on-time, and does good work, don’t ever let him go. He is like a trusty auto mechanic who will give you priceless peace of mind as you work on building your real estate empire.
When you’re looking to buy property, look for underdeveloped lots and much larger neighbors that provide precedence for you to build. Spend hours and hours researching the average selling price per square foot in your neighborhood, and down to your very block. The closer the comparable, the better.
Once you’ve done your research, make sure that the selling price per square foot is at least 50% more than the realistic construction cost, just in case you run into trouble.
Although living in an expensive part of the country can be painful, the great thing is that construction costs don’t follow the cost of housing – costs are relatively stable. As a result, real estate development returns will usually be much greater in places like San Francisco, Washington DC, and New York City vs. less expensive places like Houston, Portland, or Orlando.
If you can build for X and sell for 100% more with a high degree of certainty, it behooves you to build as much as your city will allow. If you need any more incentive to save more money, making a large return by developing a property you enjoy is a big one.
Latest Real Estate Expansion Project 2022
Hopefully by now you agree that expansion is the best way to make lots of money in real estate. It takes capital, organization, and commitment. However, once your real estate expansion project is done, you will really appreciate all the sweat equity you put in.
For my latest expansion project, I’m turning 300 square feet of living space into 600 square feet of living space. I’ve blown out a funny sized room and old half bathroom. In its place, I’m building a living room, bedroom, closet, fourth full bathroom, hallway, and laundry room.
Unfortunately, this expansion project has taken me two years due to Covid and a flaky contract. Fortunately, I got renters in the property a year and a half ago.
Overall, this expansion project should create an additional $300,000 in value after costs. The cost is about $300 / sqft while the average selling cost in my neighborhood is about $1,150 / sqft for newly remodeled properties.
Invest In Real Estate Passively
If you don’t have the downpayment to buy a property, don’t want to deal with the hassle of managing real estate, or don’t want to tie up your liquidity in physical real estate, take a look at Fundrise, one of the largest real estate crowdsourcing companies today.
Fundrise manages over $2.5 billion in assets and is vertically integrated. It invests in single-family and multi-family homes to capture rent and property price appreciation in this inflationary environment. For most people, investing in a diversified fund is the smart way to go.
Another great real estate investing platform is CrowdStreet. CrowdStreet mainly focuses on individual real estate opportunities in 18-hour cities. 18-hour cities tend to have faster growth rates, lower valuations, and higher yields. You can build your own select fund with CrowdStreet. Although CrowdStreet also has funds as well.
I’ve personally invested $810,000 in real estate crowdfunding since 2016 to diversify and earn more passive income. So far, I’ve earned roughly $500,000 in distributions.
Refinance Your Mortgage
Check the latest mortgage rates online through Credible. Credible has one of the largest networks of lenders that compete for your business. You can get free, no-obligation quotes in minutes.
The more lenders compete for your business, the lower your rate. Take advantage. I got my 7/1 ARM jumbo down to 2.125% with no fees! Mortgage rates may be ticking higher again with the Fed on the mission to hike rates multiple times to stem inflation.
However, with geopolitical risk and slowing of inflation over the next 12 months, I think mortgage rates have likely reached their peak. I don’t see the average 30-year fixed rate mortgage go much above 4%.
How To Make Lots Of Money In Real Estate – Focus On Expansion is a FS original post. Today, the average price/sqft in Golden Gate Heights is now between $1,000 – $1,200, while the cost to expand or remodel has risen to $300 – $500 / sqft. The price difference is still huge. However, it may take longer to remodel or expand due to supply chain issues. Make sure you do your own calculations as well.
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[…] Building more livable square footage is one of the best ways to make money in real estate. Don’t confuse remodeling with expansion. Always look for property that has expansion […]
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[…] home because they tend to decline less in a correction and rise more in a bull market. You have more opportunity to expand a single family home, whereas you’re stuck with the footprint of a condo. If you cannot […]
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Hi Sam, do you have a post on how to find/pick a good contractor? I’ll be following your guidance and adding an additional bathroom to our current East Bay Area home. I’d love to see your criteria and suggestions on how to find & pick a good contractor as I’m currently going through this process now. Thanks!
Hi Sam,
This is a very exciting scenario! I left New York for the Greater Phoenix area so the prices per square feet are generally not comparable, though I am looking in some of the fancier areas of North Phoenix/Scottsdale for my next investment property.
The critical question to me is how to find a great contractor? When I bought my first rental condo in Scottsdale in 2011 I went through 3 unreliable and costly contractors till I found a guy who mostly does commercial renovations who took pity on me and finished my project. He did a great job and in very quick time. But he said he wasn’t going to be doing individual condos anymore. Where do you find a great contractor? It seems like all else depends upon that question.
Also, if building onto an existing property is the most profitable, why not buy land and build from scratch? Is it because you’re in San Francisco and it’s impossible to find land?
Hi Sam,
I live in your home town McLean!
My current home is a two story townhouse of around 1780 sqft, plus a work-out basement (with two walls of big windows and a full bath currently rented for 1.3-1.5k/month, the area is not counted in the total sqft) near the town center. It was bought in 2018 for about 730K. I work in DC and have a kid in elementary school.
Now I need more space to accommodate increased family. I’m struggling between spending 60-70K(or more) to convert the very spacious yet empty attic into a guest en-suit + library/office, or sell and buy a bigger house nearby. I love the neighborhood for the good schools and strong community.
Can you give me some advice? Thank you!
Interesting strategy. Everyone I know who has taken on large construction projects hated it by being unable to find a good contractor.
Also most renos are losing propositions (spend more than you gain in sale price) so I have always recommended most people avoid them. Maybe adding square footage in a high price area is the loophole to that equation. Likely wouldn’t work in less expensive (more normal??) cities though :(
Hi Sam, thanks for this article :)
Like you, I really enjoy soaking in bath. I love my big tub in our modern condo we live in now, but will be moving into an old triplex this summer. I’ll definitely look into expanding the old tiny bathroom.
I hadn’t thought about property tax increasing after an expansion… how much did your go up, if you don’t mind me asking?
Dude are you serious… $51K on a bathroom that is super expensive!!!!
Is that a true samurai move?
Seriously $51K is too aggregious for a bathroom …thats like a master bath/bedroom suite!
Is it custom cabinets and stuff or big box store Lowe’s level?
Take it from me… that is way too much to create value. That’s like you get $25K of value in a sale, extra $200-300 a month in rental accretion but you better enjoy the extra $25k of usage value.
Ah, but you haven’t seen the hot tub yet where lot of magic will happen!
Not sure which part of the country you live in, but in SF, ~$50K is par for the course. This is one big 165-170 sqft bathroom, an expansion of about 130 sqft of the previous tiny bathroom.
130 sqft X $800 = $104,000. Cost of $50K. That’s value creation.
But surprisingly, prices for recent comps have jumped even further. One to $1,100/sqft. Check it out.
I really think that HGTV does a major disservice with their remodeling shows. They have the whole house remodeled for $80k and people think that’s realistic. Its probably $80k in materials and they get the labor free with doing the show. It would be better to show what it really costs so people can budget accordingly in the earlier stages.
Renovation and sale numbers vary wildly throughout the country. I have made a living in northeast PA investing in rental property and house flips where we are purchasing properties for $10-15 per square foot, and gut renovating them for $20 per square foot or less. Our typical bathroom reno runs about $2000 with all new plumbing lines, new tub (although not a jacuzzi), tile, and fixtures. We have full time employees, but I can’t imagine justifying a $50,000 bathroom reno even if the contractors were greedy.
Joe
Unfortunately California is a very expensive place to build. The cost to build per square foot no frills will run $130 per square foot. Workers comp will take 30 – 50% of your labor costs. If you build in Arizona just 4 hours away you can cut that cost in half.
It costs $350 per sq ft and up to build in Santa Rosa due to all the fire rebuilds.
Great Post!
I am in total agreement on adding square footage for profit. My wife and I have flipped many houses in the past and I would look for properties that we could easily expand on. We would noramly add at least 1000 square feet to them and throw them back on the market. We got caught in the down turn and could not finish the house fast enough and we ended up short selling it for a $500,000 loss back in 2008. We are at a point to start doing this again with some good lessons learned.
Thanks for commenting! Hopefully ther previous profits made up for the $500k loss?
What was the reason or reasons for having to sell during the downturn? Doesn’t labor and material become cheaper?
When the crash came we were about 30 days from completion. The house apraised for 1.2 million but nobody was buying and banks stopped giving out loans. It sat for 3 months without any traffic and the crash affected my construction business as well as my wifes realestate business. We rented it out but had to pay out of pocket every month. it was the perfect storm. We had no money coming in and we had to start selling assests to make ends meet. House prices plumeted and hence the short sale. We survived and are on the road to recovery.
Glad you guys and are bouncing back!
Smaller houses are always worth more per square foot than larger ones, simply because the price psf includes the land, and because buyers get less relative use out of marginal increases in space. Just like a half-pound hamburger isn’t twice as expensive as a quarter-pounder, a 2000 sq ft house isn’t twice as expensive as a 1000 sq ft house. That’s why I don’t think one should simply use this as a way to determine the value of home additions.
Clearly, huge bathrooms are worth more than regular-sized bathrooms, but it’s not directly proportional to their floor size. So although Sam may have recovered the cost of his bathroom expansion, and maybe even had some return, I highly doubt he has added $92K worth of value with a closet and a hot tub.
Great article Sam. I own a 930 square foot condo in San Francisco. And I also own about 540 square feet of basement storage space below my unit. This lower space is semi-undeveloped and accessible from outdoor back stairway as well as indirectly from a street entrance. I think it would be great to develop. The challenge is that an interior stairway from my condo is required by code in order to have a full bathroom in the basement. Without interior stairway, a half bath is permitted. The interior stairway would eat up quite a bit of square footage on both levels is my concern. Any ideas on this would be appreciated.
Nice article. My wife and I own a duplex we just finished remodeling. We looked at adding sq. ftg, but passed for now as we plan on keeping the property for some time and renting it.
We’re starting to look for our next rental prop and wondered what your thoughts are on maximum travel distance to a rental that you manage. You said you have some properties in Tahoe; are those with a management company?
We’re in LA, so we can go a long way and still find deals in all price ranges. Just trying to narrow down the area a bit.
Thanks and keep up the good work!
Hi Brad – My Lake Tahoe vacation property is managed if you click the post, and then the booking link within the post. The management fee is 25% of revenue, which is not bad since it used to be close to 50% until I made a change.
Without a management company, I wouldn’t want to manage a rental more than 1 hour away!
Good luck with your search.
Sam
It’s interesting. I live in the San Francisco Southbay on the border of Los Gatos close to Netflix which is doing a major expansion. I’ve looked into expanding my home recently. Homes sell for $500-$900 per square foot in my close proximity. I have a tiny home that is 1100 ft.² and is worth $850 per square foot. I can easily build out 500 ft.² adding another bedroom and bathroom but the price for similar builds and size is around $700 to 750 per square foot. Homes that are even bigger like 2500 ft.² sell for $550-600 per square foot. The price per square-foot is not fixed when it comes to the size of the home. There is diminishing returns the bigger you get.
Jason, if the lot is big can you not do a prefab in-law unit? Might be cheaper
Hi John,
Thats a cool idea i havn’t considered. I will have to look into the build cost for a pre-fab and The big question is whether it will provide a good return on my investment. I still am considering a conventional buildout which I’m pretty sure will be a decent return but like I said the bigger the home the less return on your investment IMHO. I think that price per square ft changes with build size. Its really more important to look at Price for your property now vs estimated Price for your property after addition minus cost. And this can be difficult to estimate accurately depending on where you live!
Great post! Loved the real examples of price per sqft for expansion compared to going rates in your area. It makes expansion make a lot of sense.
My wife and I are looking to pick up our second rental sometime in the next 6-12 months, and her dad (who happens to be a designer and contractor) is always reminding us that if we find a fixer upper in a great location that we should do it, since there is plenty of talent in the family to get the word down for pretty cheap (with the family rate).
A perfect example is the kitchen remodel that we did in our first condo that is now our rental. We put in a kitchen that her dad would had typically charged about $35,000 for. We did it for around $10,000. On this one we only paid for materials and minimal labor.
We would pay a bit more on the next one since we are not just coming out of college this time. But we will still get a great deal and her dad does the best work.
Cheers!
Wow Sam! We’ve been looking at houses very recently (we’re hoping to buy in the next few months and hope to get our loan mortgage amount this afternoon!) and they’re about $60 – $100 per square foot. Granted, we’re not in the same area, so it’s a bit of a relief for our budget right now. It’s insane to think about housing that costs anything over $100/sq. foot. Head explode!
Whoah, where do you live where housing only costs $50-$100/sqft? How is the labor market there? And weather right now?
Living in a low cost area is nice, but the flip side is that it’s hard to make any money given build costs are higher.
Buy a 2,000 sqft home for $200,000 means spending $50,000 for a kitchen would be prohibitive.
We live outside the Milwaukee WI area – it’s about a 15-30 minute drive to downtown. Houses in this area we are looking at are in the $130K range, anywhere from 800 – 2,000 square feet – depending, of course, on so many factors. The labor market is terrible as I have been job hunting since last fall and even my own company won’t hire me in another department, so to me, it’s slim pickin’s. The weather is winter weather. If you like year round warmth and sunshine, this is not where you want to be.
We’re actually hoping to find something under $130K that’s pretty much move in ready. I hope it goes well.
Gotcha. Thoughts on relocating to a part of the country that has a more robust job market and more temperate weather?
Sam & Ryan,
Excellent points. We’d like to relocate but it’s just not in the cards right now. Our thinking was to buy a house (of course we’d do our due diligence so we’re not next to a strip club or something) that somewhat splits the difference between our jobs, and when we are at that next point, we could transition the place into our first rental property. Sam, I read and re-read (and will read again) your “Best Area to Buy Property in Any City” post and I think armed with that and the aid of the internet, we can find something that would be great for us both now and as a future rental. I just have a lot of research to do!
I’m with Sam on this one, you should consider a warmer climate -both job and temp. Wise! Good luck finding a move in ready house that cheap in a good location. What’s a nice house if its next to a railroad or a strip club? Location, Location, Location!
Sounds like someone is trying to convince himself to spend money! And after he wrote a whole article to the contrary…
Are you conceding that I was right all along??
Hah..
What was our point of debate again? Sorry, I forgot!
I’ve always spent a lot of money on real estate. Actually, most of my money really. If I can spend money on improving my living quality and make a potential positive investment, I am spending that money all day long until the cows come home.
I can’t find the article, but I made a comment in one of your posts that spending money on real estate isn’t “spending” but an investment. You said to be careful about this mentality… and then wrote an article on it.
Hmm, don’t recall. :) In terms of property expansion, a big part is an absolute focus on a return on investment and then a lifestyle choice. In my case, of enjoying a bathroom spa I don’t need.
If we’re talking remodeling, and no expansion, that’s more on lifestyle, a “want” and not on an return on investment.
https://www.financialsamurai.com/be-careful-justifying-your-spending-as-an-investment/#comments
half way down in comments..
You are right, though, it was regarding renovations.
Good timing on this article for me. I bought my first house in 2013 in San Leandro at a dirt cheap price (short sale) and the rental income nearly doubles my monthly mortgage. It is not very expandable, although I’m not sure if expanding makes much sense around that area as it does in SF – but maybe that will change in 10 years!
My next real estate purchase is going to be a house I live in myself (I still live at home in SF with the fam since I work downtown), and I want to live in the Peninsula, somewhere south of SF but not past Millbrae. I will keep a lookout for expandable homes in my search. Any suggestions on up and coming areas around this side of the bridge with homes around $700k?
Not sure that I agree with the advice to get a HELOC, since they are variable rate and many people ran into those problems not that long ago.. But very good article! I’m a big fan of all the Reno shows on HGTV, regardless of how “real” they are. I think what needs mentioning, however, is that not all renovations are as big a return on investment as others. A remodel on a kitchen and bathroom is worth more than a shoe closet, per se. I’ll be buying a house in about 3-5 years and looking at crunching the numbers to see what investment yields me the quickest, largest ROI. I just wish I had the liquid to buy up houses back in 2007/2008!
Wow you sure know how to keep yourself busy! That’s really cool you’re expanding. It takes a lot of coordinating, but if you have the right people that makes a world of difference. I’m sure the more remodeling you do the better you’ll get at dealing with contractors and picking out fixtures and stuff too. :)
Interesting how different value can be added depending on where you live. In a city like SF, it makes total sense that adding square footage could provide a big return, as long as you have chosen a great location. Where I live, I don’t know that you need to add living space to add value. Sometimes small but simple design changes like better paint, nice wood floors, new kitchen appliances, custom doors, interesting light fixtures and better quality counter tops and hardware is all that you need to get a good increase. I opted for these relatively easy changes on my first couple houses out of school, each time benefiting from free capital gains on a personal residence. If you don’t mind moving every few years and want to be a “flipper” on a small scale and are a smart buyer, this strategy works great.
Where do you live BH?
Real estate investing has always interested me in many ways. I really like the idea of able to re-build a home to increase its value. Sam how would you proceed in real estate investment in an expensive market like Vancouver? Not sure how Vancouver compares with San Francisco. I think in Vancouver area detach houses are averaging $1M. This is including these run-down shacks too. In this situation, is it better to invest in real estates outside of Vancouver to get started? Or invest in lower priced condos?
I would try and buy the most expensive part in Vancouver that you can afford that has the most expansion potential to capture that arbitrage. SFH first.
If you can’t afford a SFH, then look for a condo that has expansion potential or a layout you can improve upon.
Without expansion potential, you are 100% at the mercy of the market dictating value.
We have not expanded our current property, but have considered turning the 2 bedroom into a 3 bedroom like the downstairs(multi unit, same living space), but would only do that after careful consideration on how much it would profit on the sale/rental, I would imagine it’s worth doing, but for just the 2 of us the current situation for living fits. Great points on this will have to start pricing this out in about 2 years.
Sam, can you confirm that you will be assessed property taxes based on the construction cost of your expansion? I always thought it would be based on per sq ft price of the actual property (so $650-850 based as per your example)
Hi John,
Property taxes are assessed on the purchase price and an inflation index here in San Francisco. You can argue about lowering your property taxes, like I recommend every year. I was successful for four years.
Property tax assessment is an art and science. The tax you based off the construction/final cost here in SF, and I’m pretty sure it’s like that everywhere in the State. The construction cost is known b/c they charge you a PERMIT FEE based on the construction cost. Of course, you can try and bullshit them and lowball the construction cost, which many people do to a certain extent. If the building dept agrees, then they agree on the cost and value added to the house.
A property appraise values your house by comparables and by construction cost as well.
To tax you based on a subjective price value ($650-850) is not fair, b/c there is only true value once something is sold. Hence, construction cost is what the property tax will be assessed on.
Please do me a favor and let me know what state you live in and call your building department and ask as well and report back.
Thx!
Thank you Sam. I live in the Bay Area and will report back. Great idea about lowering the construction cost :). Planning to add an in-law unit in accordance with your expansion principle. Will report back!
I dealt with this, this past summer. We have a sun-room connected to our house that does not have central air. I live in Memphis and it gets really hot in the summertime and cool in the Winter. Because of this it felt like there were only a couple months of the year that we could enjoy the room. We decided that add a ventless ac/heat unit that allows us to use the room for longer periods of time and also increased the square footage of the home. It was a win/win situation because now we can enjoy to room and increased the value of the home.
A dios mío! Those costs psf are pretty impressive. I think you need to take your arbitrage to its logical conclusion: finish the expansion, sell your house, move to DFW where you can live like a king for 150-200 psf, keep your rental so you can visit SF as a business trip whenever you miss its embrace, and fill up a new hot tub here with a huge pile of gold.
Good timing on this article (for me at least). We live in a much lower cost part of the country (350 per sf) and are contemplating a 400 sf addition which would run us 150 per sf. The math seems straightforward enough but with small kids, we’re more nervous about the pains of living through construction. We have a second mortgage (with about 60k left at 4.625%) so we’re potentially going to put the addition on hold, pay off the second mortgage, and save over the next year to pay cash for the addition. Any feedback from the group?
Andy, where do you live? 350 / 150 difference is still well over 100%. It’s usually always much easier to build than to buy. Kids make it a little more complicated. I’d schedule a vacation 2 weeks after the project starts to buy you some breathing room.
Live in the other end of the house where the construction is being done too, or you on top and construction on bottom floor etc.
We live in Atlanta, in one of the more expensive areas of town. Dirt is valuable where my house (relative to other parts of the city .
The other thought on my mind is whether we really need the 400 sf. We are actually totally fine in our current space – but would of course like it more to have a bit more room customized to our needs / want . So this convo is timely – not only can we indulge, it’s a pretty good investment lever per the article’s point!
Got it. I think you will feel you need more of the room when you turn around and sell your house.
I feel the same way. I don’t need an extra 750 sqft in my home, but why not if there is this huge valuation arbitrage? I think people should build if their cash flow afford to do so. I don’t know any other investment that has as high a certainty for success than other uses of cash.
Isn’t the value you add to your property only worthwhile should you sell? I am not sure I follow the logic in upgrading the property you live in. It generates no additional yield, and you can complete the upgrade at any time (ie, in the 6 months prior to selling).
In the meantime, you could use those funds to invest in income producing assets. The value of your home may outpace inflation, but the cost to renovate will closely track inflation. The funds you spend now to enhance your property, could be spent in X years, just prior to selling, and yield a return between now and then.
But then again, I am living in a downtown condo, and invest in property elsewhere based on capital growth / yield potential. If living in a bigger home is important to you, then you must measure that happiness against the lost income on invested funds.
Correct. The assumption is to sell and earn that arbitrage. I do have the word “sell” in my post 13 times, but I think I need to emphasize the word more as I shouldn’t assume. Thanks the feedback.
See the last paragraph of the post:
“If you can build for X and sell for 100% more with a high degree of certainty, it behooves you to build as much as your city will allow. If you need any more incentive to save more money, making a large return by developing a property you enjoy is a big one.”
Is all added space worth the same in terms of $$ per sq/ft? For example, i was under the impression that you would not recoup as much of a renovation cost as you suggest…
Rennovation is different from expansion.
Rennovation is making new an existing living space. Expansion is creating new living space.
After creating 129 sqft of additional living space with the bathroom, the next step could be to blow out the back and create an additional 750 sqft of living space that counts towards total squarefootage.
Spent $8000 on our old Kohler jacuzzi tub and just like you, would spend hours in it looking out at the view. Best money ever spent
Wow! Now that is one expensive and probably super sweet tub!! Was it custom? I got a Hydro Systems tub and custom made a 72″ long, 42″ wide, 19″ deep tub with 10 jets. Cost about $4,500 after taxes and fixtures. I thought I was going large, but $8,000 blows me out of the water!
Can you send me a link or e-mail a picture of it? I’m a hot tub enthusiast :)
I bought a fixer upper last year in a high rental demand area. It was well worth it. I don’t plan on selling as I’m still working fulltime and planning on using the rental as “passive income”. The fixing up was headachy, by the end of the project, I’ve made so many connections so that if a problem arise, I can easily pick up the phone and get somebody reliable to come fix things for me. It takes so many trials and errors, but I would say one of the most valuable things I gained from contructions and repairing aside from increase my networth, was the networking.
Hey Vivianne I am looking for some recommendations on contractors in SF and surroundings and will benefit from your valuable insights. Can you share some name | numbers –
Thanks,