When Mike and I first began investing in real estate, the thought of undertaking a major rehab was overwhelming to me. We had spent a weekend looking at potential investments, many of which needed substantial repairs. In fact, one of the properties reminded me of the basement in Silence of the Lambs. We didn’t buy that one, thankfully. But one of our first properties (No Basement) did require a complete kitchen remodel. I remember thinking that it would cost us $10,000 to $20,000 to remodel the kitchen, and I was shocked when Mike told me we could get the job done for under $4,000.
I’m going to tell you how we (well, really just Mike) managed to gut a kitchen and install new flooring, cabinets, counter tops, sink and appliances for under $4,000. And to be clear, we didn’t do any of the work ourselves other than snap a few pictures of the new kitchen, which I’ll show you at the end of this series.
Today, I’m going to look at factors we consider in deciding whether and to what extent we should remodel a kitchen.
Should a Real Estate Investor Remodel the Kitchen?
One of the first questions Mike and I ask when looking at a potential rental property is whether and to what extent the kitchen needs to be remodeled. In some cases, the answer is obvious. We looked at one HUD foreclosure that literally had a kitchen that was nothing but walls. The previous owners had taken the cabinets, appliances, and well, everything including the kitchen sink, out of the home. Apart from Mike’s momentary thought of just advertising the home as “open and airy,” this was going to need the works.
But we’ve also bought some homes with a kitchen that was close to pristine. The Ranch had a kitchen that needed very little improvement.
With many properties, the kitchen remodel is a judgment call. And we make the decision based on one overriding factor—the return on our investment. While calculating the ROI of a kitchen remodel is as much art as science, we ask the following types of questions:
- Will improvements to the kitchen increase the value of the home by more than the cost of the remodel?
- Will a kitchen remodel enable us to charge higher rent, and if so, by how much?
- Will a kitchen remodel help us rent the property faster?
- Will a kitchen remodel increase the chances of finding a lease-purchase tenant?
- Will a kitchen remodel delay getting the home rent ready?
In other words, is the kitchen going to pay for itself? If the answer to that question is no, we likely won’t be remodeling the kitchen.
In addition to ROI, we also consider how a kitchen remodel will affect our financing. Conventional financing generally limits a real estate investing loan to 80% of the purchase price. But we can obtain financing with a smaller bank (or “portfolio lender”) that allows us to borrow 80% of the improved value of the home. So, if we can buy the home at a discount and rehab the property in a cost-effective way, we can often finance 100% of the cost. In the case of No Basement, we came out of pocket about $2,000 on a property that cost us, including rehab, about $102,000. Without the kitchen remodel, we would have had a lower appraisal and likely would have had to invest more of our cash.
In the case of No Basement, the decision to remodel the kitchen was a close call. The home was 15 years old. The kitchen showed some age and wear, but it was still livable. The cabinets were cheap, but functional and, importantly, actually present. The tile flooring had a few cracked tiles and a funky color, but we could have replaced the cracked tiles by re-using some of the tile that we were removing between the kitchen and dining area where we would be putting in carpet. But in the end, we decided on a full kitchen remodel. We did so for four reasons: (1) if we put it off, we would likely only be delaying the inevitable, as it would need to be remodeled in the foreseeable future; (2) we believed that a remodeled kitchen would allow us to charge about $50 more per month more for rent; (3) a remodeled kitchen would help attract a lease-purchase tenant; and (4) we concluded that a remodeled kitchen at a cost of under $4,000 would increase the property by more than the cost.
It’s worth noting that our first tenants at No Basement did not sign up for the lease-purchase. But two years later, our next new tenants did. Did the kitchen make the difference? It’s impossible to know for sure, but I think it did.
Once you decide that something needs to be done to the kitchen, the next question is what. I’ll cover this question is my next post.