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Have you over-improved your home?

There's no question, Americans are a home-improvement-happy bunch.

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The past couple of years saw homeowners, armed with equity loans and gold rush fever from appreciating property values, updating kitchens, landscaping gardens and finishing basements at a frenetic pace -- rationalizing that the billions of dollars spent each year with cockeyed optimism would be earned back at resale.

Indeed, many will.

Yet, as the dust settles on the real estate market and prices float back down to earth, some, too, are finding that they spent far more updating their homes than they could ever recoup at the closing table. It's called over-improving your home -- and millions have made the mistake.

"A lot of people who over-improved did a cash-out refinancing when rates were at a low, expecting housing prices to continue going up and up," says Sal Alfano, editorial director for Remodeling Magazine in Washington.

With an average kitchen remodel alone costing $55,500 according to Remodeling Online's "Cost vs. Value Report 2007," it's easier than you might think to turn the cost-versus-value equation on its head.

"These days, projects are expensive," says Alfano. "You don't have to do a lot of remodeling to spend a lot of money. What usually happens is you'll get a leak in your bathroom and you figure it's a good time to do a remodel. It's magnificent when it's done, but suddenly the rest of the house looks pretty shabby. There's a snowball effect where one remodeling project tends to lead to another."

So what's the danger? Not much, if you plan to stay put. Chances are you'll own your home long enough to ride out this down cycle and allow annual appreciation to offset your investment.

But if you plan to sell soon, or need to unexpectedly, a danger exists that you could owe more on your home than it's worth. Remember, home equity loans come due in full the moment of resale.

"This is an issue because of how aggressive the lenders have been [in approving home equity loans to cash-strapped borrowers]," says Richard Roll, president of the American Homeowners Association in Stamford, Conn. "You could be in a position where you need to get 105 percent of the total debt on the property and you can only get 98 percent of that from a buyer."

Those who can afford to sell at a loss, of course, can pay the difference out of pocket. Those who can't face an unpleasant choice: Remain hostage in a home that no longer meets their needs, or, in an extreme case, lose the house if they can't make their loan payments.

"Over the last 10 years, we've seen a fairly significant core of the population spending more than half the value of their home on improvements," says Kermit Baker, director of the remodeling futures program at the Harvard Joint Center for Housing Studies. "Some of that is because buyers increasingly are moving into older suburbs convenient to their jobs in the city, and they're renovating smaller Cape Cod and ranch-style homes."

Many of those homes have never been updated, he says, featuring a single bathroom and formal dining and living rooms. Buyers were tearing down walls to create open spaces, adding large master bathrooms and expanding bedrooms for space. It didn't come cheap.

The center estimates that homeowners spent almost $174 billion on remodeling in 2007, down 2.36 percent from 2006. And the numbers are expected to continue to decline through 2008, the center reports, citing the constriction of credit markets and sluggish home sales as major factors.

Next: Improve first those things that yield the greatest return.
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