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Remodeling vs. building an addition

Dear Dr. Don,
Our home has greatly appreciated over the last four years. We paid $200,000 for the home and it is currently worth around $275,000. We are in need of some additional space. We have an unfinished section of our basement that could be turned into an additional bedroom or we could put a room over our garage. The basement would cost about $5,000 and the addition would cost about $40,000. They are currently building houses in our neighborhood in excess of $300,000 and $400,000. Their square footage tops ours by 500 to over 1,000 square feet.

We are interested in maintaining the lowest mortgage payment possible. We have $20,000 available for use. We had thought to put this amount on our mortgage and refinance our home, but this was prior to our acknowledging our need for additional space. We do not plan to remain here forever, but we do anticipate being here for another five to 10 years.

What would be the best way to handle our situation? Should we put the $20,000 on the house and finish the room in the basement on the cheap? Should we borrow an additional $20,000 and expand the house bringing it closer to the square footage of the new homes? Or should we do something totally different? We would appreciate your thoughts.
Thank you,
D. Develop

Dear Dee,
I don't advocate that you take on remodeling projects to meet the next owner's needs, especially when you plan on staying in the house for another five to 10 years. Your return on the investment is in your gaining use of the space. I may be a little bit jaundiced in my opinion, since where I live large homes are routinely remodeled every time the home changes hands.

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Your first step should be to talk to a local real estate agent or two about the advantage or disadvantage of owning the smallest home on your street. You may be surprised by the reply. While owning the biggest house in the neighborhood can be a problem, owning a smaller home in a neighborhood of larger homes may not carry the stigma you think it does.

You state that you want to keep a low mortgage payment. Therefore it seems to me making unused space usable is where you want to go. Why spend $40,000 if you can get the same utility from spending $5,000. Don't do it on the on the cheap, however, since weekend warrior projects that look like amateur night at the hardware store won't score any points in the resale market when you eventually put your home on the market.

Most remodeling projects and home renovations don't add a dollar-for-dollar benefit to your home's price. The National Association of Realtors annual Cost vs. Value Report discusses the potential return on investment for different home improvement projects by region. Their 2002 Cost vs. Value Report can help you see what's going on in your market. While you're at it, take a look at Bankrate's Guide to Home Improvement.

Still, even if you assume that you'll get 75 cents back on the dollar, you'll reach break-even on the investment in six to 10 years if your home's market value appreciates at an annual rate of 3 to 5 percent. That's a large part of my reasoning as to why you should remodel to meet your needs and not the needs of the next owners.

-- Posted: Aug. 13, 2003

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See Also
Bankrate's Guide to Home Improvement
Should you remodel or move?
Financial advice glossary
More Dr. Don stories

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