Renovate or relocate? 5 key questions to ask

  @Money April 8, 2013: 4:37 PM ET
fix up or trade up house

The Hildebrandts found a new house without having to leave their Seattle neighborhood.

(Money Magazine)

With baby no. 2 on the way, Jonathan and Andrea Hildebrandt had to face an expensive reality. They needed more room.

Their home had only two bedrooms, and nowhere for their 2-year-old to play without waking up her future little brother. Moving didn't seem viable. The family loved their Queen Anne neighborhood in Seattle, and given that home prices had fallen 20% since they had bought four years earlier in 2007, they doubted they would recoup the $530,000 they paid. So they started talking seriously with builders about refinishing their basement or adding a second floor.

Those conversations came to an abrupt halt, though, when the Hildebrandts found their perfect house, a $618,000 three-bedroom just blocks away.

When they got a $520,750 offer two days after putting their home up for sale, they decided to move. "We essentially got the house that we would have ended up with 18 months later, but for a third of the cost," says Jonathan.

A RELOCATION BALANCE SHEET
What the Hildebrandts gained in the move:
Square feet: 1,000
Bedrooms: 1
Baths: 1
What it cost them:
Sales price of the old house: $520,750
Cost of new house: $618,000
Sales commission: $32,000
Closing costs: $1,900
Moving: $1,200

To move or to improve? For the first time since the housing market went bust, homeowners are seriously contemplating that question.

Until recently, selling a home was a dicey proposition. Even those who were lucky enough to find a buyer often walked away with far less than the home's previous value, and in some cases even less than what they owed the bank.

Related: Home prices - Your local market forecast

Owners also put off renovation projects, causing home-improvement spending to fall 16% from 2007 to 2011, says the Joint Center for Housing Studies of Harvard University. Little wonder -- who wanted to sink more cash into a home whose value had already plummeted?

Now the market has turned the corner. Houses are selling faster, and prices are climbing. In a Coldwell Banker survey, 82% of agents said they expect more home shoppers this spring, singling out trade-up buyers for playing a "significant role."

Home remodeling is back

Remodeling, too, is surging as owners, reassured by rising property values, tackle postponed projects. Spending on improvements hit $131 billion in 2012, its highest mark since 2006. "There seems to be a lot of pent-up demand," says Paul Sullivan of the Sullivan Co., a Newton, Mass., remodeling firm.

But just as today's market looks nothing like it did during the bubble, the decision to list or fix your home has changed dramatically. Buyers have become more conservative. The recovery is progressing unevenly, so where you live can have a huge impact on your options. And a limited supply of new homes means the relocation pickings are slim.

Are you grappling with the decision to fix up or trade up? Consider these factors, and ask yourself five key questions.

MOVING: Is selling a realistic option?

Start by assessing the prospects of your local housing market. While the biggest rebounds have come in places that were walloped by the real estate crash, they're not necessarily the best bets for long-term gains.

Instead, experts say, many buyers are gravitating toward areas with key quality-of-life features. Good school districts have long been equated with strong home values, says David Figlio, director of Northwestern University's Institute for Policy Research, adding that "people pay more attention to these things during times of tighter housing values than they do in go-go periods of real estate."

The far-flung exurbs thrived in the boom years, but now an easy commute drives sales. "People want to live in closer to the city and in more walkable neighborhoods," says Jessica Wilkie, an associate broker at M Squared Real Estate in Washington, D.C.

Related: 5 best markets to buy a home

To see how your neighborhood stacks up against others in the area, compare three key metrics: price increases, speed with which homes are selling, and inventory of places for sale (you want a number that's higher than that of nearby neighborhoods for the first two, lower on the last).

You can ask a community real estate agent to run these statistics for you, or do your own investigative work on Trulia.com or Zillow.com, both of which have tools for making comparisons. If your area fares better than those around you, you're in a good position to sell.

Are you among the 22% of homeowners with a mortgage who, according to real estate research firm CoreLogic, are underwater, or one of the 23% who have 20% or less equity in their homes? If so, your choices are limited.

Even if you can sell, you will probably walk away empty-handed, or at least without the 10% to 20% cash needed to put down a deposit on a new place. Renovating is the better choice. Assuming that it will cost you less than moving, that you plan to stay in your home for at least five years, and that you can pay for the project without borrowing, it's a good bet for improving the long-term value of your home.

Related: 5 best markets to sell a home

Lisa and Josh Herman's Palm Springs three-bedroom was recently valued around $300,000 -- a far cry from the $495,000 they paid in 2008. Still, with two kids, the Hermans could no longer live with the home's open floor plan. "All you saw when you walked in the front door were toys everywhere," says Lisa.

Rather than sell at a loss, the couple opted to pull together $20,000 in savings and bonus money and started updating their bathrooms, converting an office into a fourth bedroom and turning their formal living room into a space for the kids.

The project's nearly finished now, and the Hermans say it was money well spent. It may take years for the market to get back to pre-bust levels, and that's fine, says Lisa: "I think we'll be happy here for a very long time."

Next: Is remodeling the better choice?

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