How can a buyer be certain the price they are paying for a home is a good value? One good way is to compare the cost of the existing home the buyer is considering to the cost to purchase a similar home that is brand new. If the price they are paying is significantly lower than the cost of a comparable new home, the buyer is probably getting a bargain.
Why is this true? Because there are never enough existing homes to meet the growing number of households being added to the economy. People must live somewhere, so new units must be constructed for either rental or primary use. New construction has been drastically reduced over the past several years because the recession has reduced demand and distressed property sales have crushed housing prices. It doesn’t make sense for a builder to build if they can’t turn a profit. The failure to add more units to the housing market will eventually create a shortage of homes available for sale and prices will once again rise. Materials and labor costs are also at rock bottom prices and are likely to increase soon.
All of this means a home purchase today is likely to be a good investment. The limited increase in supply will cause home prices to increase even if the economy doesn’t recover. Rental rates will also rise because supply won’t meet the growing demand caused by population increases and a lack of new construction. The end result, a buyer purchasing a home today for substantially less than the cost of a similar new home is likely getting a bargain price with significant appreciation.
How can the cost of construction close be applied? Suggest your buyers take the following steps:
- Once the location and type of home have been identified, research the price of new homes being built that are similar in location and amenities.
- Calculate the cost per square foot of the new home by dividing the total cost of the new home by the living square footage. For example, a home is 3,000 square feet and is being offered on a quarter acre lot in a nice neighborhood for $300,000.00. By dividing the $300,000.00 price by 3,000 square feet, you conclude that the cost for this type of home is $100.00 per square foot.
- The buyer can calculate the cost of an existing home by finding one in a similar location with a similar lot. The buyer can assume it would cost approximately $100.00 per square to build the home new.
- If the size of the existing home is 3,500 square feet, the home new would cost around $350,000.00. The existing home will usually be worth a little less.
- If the home is a few years old and the neighborhood is similar, it would be worth just a little less; say around $325,000.
- If the existing home were being offered for $250,000 because of the economy and glut of inventory and foreclosures, the buyer could be saving $75,000 based on what the house will be worth once construction activity starts again.
- Conclusion– The buyer is put in a position of realizing a hefty gain in the future.
This approach is also a great way to calculate recaptured equity, or the difference between what the house should be worth based on 5% appreciation in a typical market, versus what the house is selling for today. An over-correction in prices has led to great savings for buyers who take advantage of this window of opportunity. Be sure to encourage your buyers to take advantage of the great savings they can realize by buying now.