Classifying Home Improvement Costs

[Kio]

Hi all! Mr. Kio and I are having a healthy debate on how to classify home improvement costs, and I thought I'd get the Mustachian community's take.

We bought a fixer-upper, so right now most of the repair costs will be for stuff that will increase the value of the house: fix a foundation wall, put up a fence, build a garage, etc. We got a great deal on the house because of all the needed repairs.

We currently track the value of our house as an asset in our joint net worth.

One of us believes we should track most home improvement costs under "investments," since the repairs will raise the value of the house.   This person is willing to file fancy house expenditures under "household expenses".

The other one of us doesn't want to consider house repairs "investments," and would rather track all costs  under "household expenses". This person thinks that it would be hard to determine what is a fancy expenditure and what is an investment expenditure.

We are shooting for 60% savings/investments this year, and we need to catch up on the previous owner's deferred maintenance (so high cost this year for improvements and repairs).  Depending on how we classify the cost, it will be easy or hard to reach that 60% goal. :) 

I see that MMM himself has decided to leave out the $80k on his house repairs from his recent 2014 spending breakdown, so I also don't know how he might classify this.

What do you think? How do you all categorize your home improvement and renovation costs?

[dbunny]

We are updating a condo and have made a separate category for it in our bills program (we use Microsoft Money). It basically shows up as an expense, kind of like household expenses. We know that the updates we are doing are improving on the home, but because it's so difficult to quantify the amount of increase on the home's value, we don't track it as an investment. What we are doing is making a separate spreadsheet with all the renovation costs, like date, what was purchased, price, etc, in order to track how much we are spending on the renovations in detail, but they are still expenses.

The way I see it is that you don't know what the return on investment until you go to sell. Our method is basically that we have a bunch of expenses now, but sometime in the future we will get a bunch of money when we sell.

[ShoulderThingThatGoesUp]

To make the results make sense, you need to have an idea what value your improvements are adding. Try the Cost vs Value report for your area (not easy to link to).

[Kio]

Thanks for the input dbunny. I like that philosophy.

Thanks for the suggestion, ShouldThingThatGoesUp.  I didn't even know that was a thing. I will take a look around for it now!

[MDM]

We are shooting for 60% savings/investments this year, and we need to catch up on the previous owner's deferred maintenance (so high cost this year for

Ask yourselves why are you shooting for that 60% number?  And what will you do if you see yourselves headed for 55%? ...for 65%?

Personally I think fixing a foundation wall is "needed maintenance," erecting a fence is "a blight on the landscape," and a garage is "a great idea, particularly if you live where it snows."  Others may categorize those differently. ;)

Comments by dbunny and STTGU are good.

[Runge]

I ask myself this question all the time, but I'm classifying it a bit differently than you are. My two categories are maintenance and improvement, and there have been some cases where maintenance could also be classified as improvement, i.e. deferred maintenance. I do tend to not look at either categories as investments, but that's probably due to the fact that I don't see my primary residence as an investment which I think is beyond the scope of this thread. To me, they're both expenses that may or may not add monetary value to the home.

So when I'm mulling over one of these expenses, I tend to answer it by, is the work being done restoring it to it's original condition (i.e. maintaining status quo), or is it a big improvement or big-time deferred maintenance. There's still some grey area where someone would classify some work differently than I would, but the general premise is the same.

Not sure if that helps any, but it's what I go through in my head.

[Kio]

Ask yourselves why are you shooting for that 60% number?  And what will you do if you see yourselves headed for 55%? ...for 65%?

MDM, great point.  I think we feel better about the future if we are consistently hitting 60% of what we call 'smart money.'  It is smart to rebuild the foundation wall, but is it going to 'pay off' as a future investment? Maybe, because our house won't fall down. But a really stable wall also won't give us a passive income in the future either. This is deep stuff, man.

I like your categorizations. :) I happen to be the one that doesn't want to count the home improvement costs as "Investments," but I am really starting to come around to at least counting the foundation wall repair as such, since it is needed maintenance.

Thanks, Runge, that does help.  It is really interesting to see how others deal with the gray area.  I like the idea of asking "Is it maintaining the status quo?"

[worms]

You could look at this from a "Rich Dad, Poor Dad" viewpoint and class your house as liability rather than asset, but I suspect that is a step too far for most of us.  I would take a business accounting approach and establish a clear means of accounting for assets - which would include depreciating any inputs that don't have a permanent and recoverable value.  There are risks in revaluing the asset upwards ahead of actually realising any capital gain and personally I would view most of the additional work to the house as simply preserving its capital value.

[deborah]

I divide things - needed maintenance, cosmetic, and structural additions.

Needed maintenance is not really an investment, but it is protecting your investment. A lot of needed maintenance won't give you any extra money when you sell the place, but it will stop it from being a ruin. Maintenance is not and investment. In my (non-US) tax system, maintenance on investment properties does not change the cash base of the investment property, but, like interest paid on the mortgage, it counts as outgoings.

Structural additions might include a new garage, pool, adding an extra bedroom onto the house, a shed... These definitely add value to the house - but whether you will get a monetary return for that added value depends upon what you have and what has been done. If you already have six bedrooms, adding a seventh probably won't give you extra monetary return, whereas changing a house from two to three bedrooms usually will. Similarly with beautiful bathroom and kitchen renovations. These are probably all investments - but the return from the investment varies. In my tax system, these changes DO change the cash base of the investment property, and are not counted as outgoings. Fences would be included in this.

Cosmetic changes can vary. New paint is obviously maintenance, but usually enhances the value of the property when it is sold. A new granite kitchen bench replacing the laminated bench is obviously an investment (as it is not maintaining something with like for like - it is replacing something with something quite different).

[worms]

A new granite kitchen bench replacing the laminated bench is obviously an investment (as it is not maintaining something with like for like - it is replacing something with something quite different).

But how do you value the difference?   The additional investment in the property is almost certainly less than the cost of purchase and installation and it is then an item that will diminish in value over the years, so should be depreciated annually. 

Personally I would have a line item for initial property value (not actual cost) at purchase date, a line for additional investment, a line for depreciation and a revaluation reserve to account for changes in general property values.