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Economics of Buying vs. Building

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By determinedmom
September 20, 2006

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I've posted a lot about our debt pay down mode and all our other goals such as retirement.

When I first posted here two months ago, we had just sold our large (4300 sq ft) house, which was very high maintenance and high expense (the mortgage wasn't that much but the house was very energy inefficient, had a pool with pool maintenance costs, etc). We used the proceeds to pay down a lot of our debt and began renting. Shortly before that we bought 3 acres of land in the ideal location for us ... an area where there is little unrestricted land (what we wanted) and which is very convenient to his in terms of driving to work (a long drive but fastest from this area). We were planning to complete a house design and then build.

At the time, many people suggested that we defer building until we had paid off more debt. Since then others have suggested that it is preferable to buy an existing house rather than build.

In a nutshell, the advantage to building now for us is that we already own the land, I prefer to own than rent, we can build now what we want as our forever house. We only have to move once if we do this, probably around the time that the lease on the rent house is up.

The advantage to buying existing now is that we could now buy a house that is suitable for our current needs - house with 5 bedrooms with a guest house for my mom - but we could sell it when the kids are gone and then build our forever house which could be much smaller than the house we need now. By doing that maybe we ultimately spend less building a smaller house and we build a house later that is less expensive to maintain. Another factor is that this option guards against uncertainty a bit. I've run projections on our savings, retirement, college for kids, and there are a lot of variables. By waiting to build, we can later tailor what we build to how some of those variables pan out over, say, the next 5 or 6 years.

Anyway, below is the link to the build or buying thread where I discussed a lot of this:

My question for this board though is an economic one. I'm trying to figure out whether it makes economic sense to buy a particular house we've looked at it. I am only considering in this topic the options of buying a specific house v. building now. I know there are other options but they aren't the ones I want feedback on right now. If the economics are neutral between these two options we'll probably try to buy. If they greatly favor building, then I might change my mind. In any event, we plan to keep the 3 acres we've bought, planning to build on it later. If we later change our mind about building, we have no doubt we could profitably sell it.

From an economic point of view here are the options:

Build a roughly 3700 sq ft house on 3 acres we own. We would also build a porte cochere with a 2-car garage with a guest suite (bedroom, living room, kitchen, and bath) for my mother. In addition, we intended to build an outbuilding that would include kenneling for our dogs. This land has nothing on it ... no well, no septic, and no real fence (it has a fence but not one of any usability). So site preparation costs are considerable. Before we started working on the design, DH and I decided that our absolute top budget for building the house, etc. (not including the land) was $535,000. The land cost $90,000. So the total would be $625,000. We planned to design the house, etc. to get bids for between $475k and $500k to leave a contingency for the rest. While that is a fairly high budget, it is not so high that we haven't had to make a lot of compromises in the design. And, to an extent, some of the compromises would be unnecessary if we could just build a house that was DH and I, rather than 6 people. However, right now we have to build for everyone who will live there in the next several years. We have most of a design done but haven't gotten bids yet (except an early ballpark on a different version of the plans).

Buy a house that already has a kennel and barn that is listed for $495k. This house is not totally ideal on location (5 miles farther away) but has many advantages. We went and saw it today. It is in good condition and would need very little work inside. The shower needs some work, I would like to replace the cooktop and a few other things like that. But all very minimal. The house itself is about 3900 sq ft. It has extensive landscaping, sprinkler system, fencing, etc. all costs that we would have to incur in building (and they are expensive - the fencing quote alone for our 3 acres is $16k to $25k)

The interesting thing is that the house is owned by someone who shows dogs. So there are a lot of things set up for dogs. The seller built a brick 2-room house (about 800 square feet), which the list said was plumbed for a bath and was 2 rooms. When we read that my immediate thought was to put in the bath, put in a small kitchen and make it the guesthouse for my mom. The cost would be in doing those things.

However, on viewing the property we find that the seller built this "hobby house" as her kennel at a cost of $85000 almost 10 years ago. It is fabulously set up as kennel (not totally perfect for my breed but really nice). It could be converted to a guesthouse, but then we would need to convert the barn to a kennel, which is sort of a shame since this is such a fine kennel (A/C, built in dog bath, 3-sided 12 porch for the dogs, etc.

So, we thought about possibly buying this and keeping the kennel as a kennel and then building a separate small guesthouse for my mother. So, we have to factor in that cost.

I do think we can get the house for less than the asking price. I know the seller put a lot of money into the kennel and many other extras. I also know that she doesn't expect to get it all back. House has been listed for about 10 months. Agent (who lives in the subdivision) says that it is not unusual for it to take a year to year and a half for acreage houses there to sell, since each one tends to be very unique. The seller is moving because she has a job that is about an hour-long commute. Her agent says that the seller is a motivated seller.

So we could offer something like $450. I doubt she would take less than $465 to $475, but you never know. Our main costs would be in (1) building a small guesthouse and (2) modifying some of the fencing, which isn't tall enough for our dogs. Inside the house the changes we want are relatively modest and most don't have to be done right away.

What I am trying to do is get a handle on how the economics of this will work. By the time we buy the house and build the guesthouse, it probably costs close to the top of our building range (not including the land). FWIW, the $535k that we were prepared to spend building was well under the amount that mortgage calculators say we can qualify for. The mortgage payment for that is higher than what we were paying in our old house. However, our total debt payment, house maintenance and mortgage payments for a house at $535k are less than we were paying at our old house. Why? Well, credit card minimums are now about $2500 a month less than they were. That alone accounts for the difference. Also tax rate in new area is about a third lower.

So, we could build or buy and would still have money left over to apply to the debt snowball. However, we would not live in this house (if we bought it) for a long time. We would probably want to sell by the time that our sons were gone (although maybe before our daughter was gone). In 6 years our daughter will be 16 and our youngest son 18. So, I'm guessing we would keep this house 6 to 8 years and then build.

We would then have to sell it incurring those transaction costs. We could then build a smaller house, which in today's dollars would be cheaper (of course, we would be building using tomorrow's dollars).

If we bought this house, I expect it will go up in value because the area in question is one that is becoming more desirable. I expect it might take up to a year to sell though, given the uniqueness of the outbuildings.

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