Return On Investment- Property Value vs Depreciation

Homeowners often ask if certain home improvements or investments will increase the value of their home (kitchen, flooring, swimming pool, etc.). The reality is that a house is worth what a buyer is willing to pay for it, not what a seller has ‘invested’ in it.

Defining depreciation

Depreciation is a noun that is defined by Webster Dictionary as:

1. decrease in value due to wear and tear, decay, decline in price, etc.
2. such a decrease as allowed in computing the value of property for tax purposes
3. a decrease in the purchasing or exchange value of money
4. a lowering in estimation

If we had a dollar for everytime a homeowner said I have spent $XX on this house, and I’m not going to sell it for less than what I have ‘invested’ in it,” I would be a very wealthy agent.

So many sellers have the misguided thought, that a 10-year-old, $40,000 kitchen has increased the value of their home by $40,000.

It hasn’t.

Every time they turn on the stove or open the refrigerator door, the value of those appliances depreciate. Every scratch on the cabinets or the stain on the counter-tops depreciates the value of those fixtures.

It’s no different than it is with a car — a used car is worth a lot less than a new car.

How does depreciation work?

Everything has a “useful life.” Roofs have about a 30-year life cycle. That means every year you would deduct one-thirtieth of the value of the roof. If you paid $10,000 for the roof last year, today that new roof is worth about $9,666.

For example, According to a depreciation guide chart on the internet, the useful life of a dishwasher is eight years. If a dishwasher is 12 years old that would seem to indicate to a buyer that the dishwasher is worth nothing. The fact that is a functioning dishwasher is worth something — but not much.

Real property appreciation comes from the increased market value of the land more than any updates made to the property.

For example, a quirky older home in an established neighborhood often sells for more that a brand new home in remote subdivision. It’s the land that’s worth more.

There is no question that certain things will improve the perceived value and marketability of a home.

A kitchen with more trendy finishes and appliances will be more marketable than the same aged kitchen with older finishes. However, the only intrinsic way to increase the actual value of a property is to increase its livable space — put on an addition, finish an attic, finish a basement, build out over the garage, etc.

Although new kitchens and baths certainly help, keep in mind that after 10-12 years, they are not new anymore — they have depreciated with usage.

When factoring in the improvements made to a home, sellers also need to factor in the depreciation of those improvements.

It’s a hard lesson to lesson for a lot of sellers to understand. Yes, they have spent money in improving the house — 10 years ago. But that means nothing today.

The reality is that a house is worth what a buyer is willing to pay for it — not what a seller has “invested” in it.