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Land to Home Value Ratio

woofat's picture

I have been told that there is a rule of thumb regarding the ratio of the cost of land to the cost of the home built on that land. The problem is that opinions vary greatly on what that ratio is. The most frequently heard is 3:1, that is, the house should be at least 3 times the cost of the land so that a $50,000 lot damands a $150,000 home. Does anyone have any other guidelines that might help me with this delema.

(post #53827, reply #1 of 13)

The problem is that people have different sizes of thumbs.

My guess is that any such ratio would vary somewhat depending on the local area and conditions.

My suggestion is that you match the selling prices of the neighboring homes. And that will define the ratio.

Of course you could like in an area like mine where I can look out my window and see $50,000 house and a $300,000 and within a block several $500,000 plus houses.

. William the Geezer, the sequel to Billy the Kid - Shoe

(post #53827, reply #3 of 13)

Bill is on the money with his comment.

I have been managing real estate for other people and for myself for many years. I also have my sales license, and keep a close eye on the local market here.

You are doing yourself a disservice to use any kind of rule of thumb. There's a lot of $ at stake, and the only way you'll ever know if the deal is worth doing is to do your homework and know your market. Throw out those rules of thumb. You'll be better off for it.

 

(post #53827, reply #2 of 13)

I doubt that any ratio could be applied to values that have no relationship to each other.

Where you choose to live and what you choose to live in are determined by different values.

A lakeside property with frontage may be where you want to live but the cost of the lot will be determined by how many other people want to live in that same location. The same size lot accross the road from the lakeside property may sell for 1/4 of the price of the other.

Does that mean that you would want to build a house on it that would be worth 1/4 as much as the property across the road from you? Of course not.

One is driven by demand and the other by material costs and needs.

Gabe

(post #53827, reply #4 of 13)

I just purchased a lot and did a fair amount of research ahead of time.  I came across a couple "rules of thumb" that suggested the land cost should be about 33% of the total project cost.  However, I doubt the usefulness of such a number.  It seems to me that there are too many variables to make that a firm rule. 


A million-dollar house might look just fine on a million-dollar lot, and a buyer probably should spend more than $40,000 on their house even if they got a lot for $20,000.


Around here (Maryland), the price of buildable land is going through the roof.  Prices have gone up over 50% in one year.  I was a step slow in bidding on 6 acres that sold for $185,000.  This year, that lot could easily sell for $300,000.  In fact, it's hard to find 5 acres for less that $350,000.  (Supply is reaching a critical point, people are worried about interest rates climbing, and bulders are buying up everything in site even when they don't have a buyer lined up.)  For most people, that doesn't mean they can spend 50% more on the house to keep the 2-1 ratio intact.


Anyway, FWIW, I think 33% is the number you're asking for.

"Listen, strange women lying in ponds distributing swords is no basis for a system of government."

Jon

(post #53827, reply #5 of 13)

I was taking a class in college on construction. If my memory serves me right (which it doesnt alway do). The instructor said on this subj that the material cost of ####new home is roughly 1/3 the total cost of the home. So if ####home cost 150K then the total cost of the material to build the home is roughly 50K. I know ya cant generalize but He said thats a loose(very loose in my opinion) rule of thumb.

 Darkworksite4: When the job is to small for everyone else, Its just about right for me"

(post #53827, reply #6 of 13)

Wow! Is that an improved lot in a subdivision with tap fees and raod or unimproved rural land without septic, well, and driveway?

Figure my appraised house value to my purchase price of land and my ratio is about 6/1

Today I worked on a house six miles from here. It's an old ramshackle in a good neighborhood with bigger homes all around and a view of the water on both sides of the island. The house itself is rotten so bad and the site is sooooooooo rare that the ratio must be more like 1/6.


Excellence is its own reward!

 

 

Oh Well,

We did the best we could...

(post #53827, reply #7 of 13)

You really didn't say what the problem is.  One caveat.  If resale ever requires an appraisal or you're planning on getting a mortgage, you will find problems if the value of the land is high when compared to the value of the structure.


Since mortgage companies are not fond of loaning $$ on raw land, they don't like to do a deal where the majority of the value is the lot.  That's where the rule of thumb comes from....that and common sense.  Around here it's 25%-33%.


Shelley in NM

(post #53827, reply #8 of 13)

Shelly , thanks for that insight. I was thinking ,.....why would we ever want to use a rule of thumb ? It didnt make sense to me at all. But ,...for a banker working numbers on a high priced lot makes sense. We have several different kinds of them here.


Really this leads to a very good subject for how we know what to spend on the land before the planned house. There are no set of rules there either. The listings here are radically different , indicating to me that  the land cost was different in the same size house to another. They have a way of getting equal when they go to the auction block.  Another way is the high ones dont sell till they come down to match the others. Ahhh what a thrill to watch them jockey for position . Every now and then one sells high for full price and that upsets thinking.[ therefore the long shot house ] 


Before I am done babbling here I will say that "the land holds the profit or loss". Typically, houses in the same neiborhood cost the same price per foot to build at the time . [in the ball park anyway ]  So really the land holds the increased value or depreciation. The key has always been the land.


Tim Mooney  

 

(post #53827, reply #9 of 13)

I remember taking notes on this. When the teach was lecturing on the subj. Im gonna have to go look for them.

 Darkworksite4: When the job is to small for everyone else, Its just about right for me"

(post #53827, reply #11 of 13)

Insurance companies don't like it either.  We bought an old house on an acre in town (Sacramento).  The value of the land was 50% of the purchase price.  But we have replacement insurance - which valued the buildings [house (old), pool house (new), 3 garages (2 new, 1 old) ]at more than we paid for the whole thing.  The insurance rep. got grumpy trying to figure out how to massage the numbers.  So, at least in our case, the valuation numbers have no meaning at all.  In a subdivision project, land to building value ratios would certainly be more reliable.

"A completed home is a listed home."

"A completed home is a listed home."

(post #53827, reply #10 of 13)

Mortage companies have no problem lending money on raw land it's done all of the time.  what they have is a problem where the assest to debt ratio is out of wack.  I.E.  the land is a portion of the loan that at first won't sustain the debt. 


     Borrow 500,000 for a chunk of property that the land will be 300,000 of it and untill the house is built all the bank really "owns" is the raw land  worth $300,000.  The banks real exposure is $200,000 plus the cost of reselling the land.


  That makes a banker nervous. He then looks carefully at the rest of the package. Is the builder worth millions?  Does he have a history of paying loans off on time, is the risk to reward ratio correct?   If all above is in line then the loan sails thru. if not it doesn't happen.

(post #53827, reply #13 of 13)

I was talking in generalities Frenchy.  I've gotten plenty of loans on land.  But it's tough unless you have lots of  other assets and a personal relationship with the banker.  At least that's the way it is here.


My best friend is a RE broker.  She was sweating bullets over the appraisal on one of her listings a few weeks ago.  Prime lot in the older section of town.  Dump of a house.  Told me that if the land/house ratio wasn't "normal", the buyer would have to go to the secondary mortgage market....where the rate is way high.  Ways to get around that too.  Go to the bank with a package that includes the rehab/tear down and wrap it all together.  That was not the goal of this buyer however.  He just wanted a run-of-the-mill mortgage and is planning to rehab it out of pocket.


Don't know how it works other places, but would assume that a dump on a plot that is primo (say ocean front) would be another story.  Also assume that lots that are so valuable that a tear down is the highest and best use are also no problem.


Shelley in NM

(post #53827, reply #12 of 13)

Depends on where you live, in Toronto for example, they might buy a home for $600K and tear it down to use the 40'x100' building lot (essentially the lot now costs $600K + demo). Do they put a $1.2M house on that ? Probably not, a $600K house wasn't in a prime area and they're looking for the target real estate price they think the neighbourhood can sustain which means thay wouldn't want to go much over $500K building cost.

.

Phill Giles

The Unionville Woodwright

Unionville, Ontario

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Phill Giles

The Unionville Woodwright