Overcapitalisation? Do you need to worry about it? Alternatively, is it just a pointless worry? This week, in our blog post, we’re taking a look at what overcapitalisation means, when you need to worry about it, and when you don’t.
So, read on, get some insight and find some other helpful articles on the subject of building a new home!
What does overcapitalisation mean?
Ok – yes, overcapitalisation is a big word, and no, it doesn’t mean using too many Capital letters! In a nutshell, to overcapitalise means you have invested too much “capital” (typically money) into an “investment or asset” (usually a new home) to the point where if you realized the capital by selling the asset you would end up with less “capital” – In other words – you’ve spent more than the house is worth!
If the amount of “Capital” you put into the purchase or creation of your new home is more than the “Market Value”, then you have overcapitalised…
The three parts of the overcapitalisation equation
- Your Capital is how much money you will be paying all up, to purchase your new home or renovation. You need to include the original purchase price of your land in this figure.
- The Asset – this is what you are getting from your hard-earned capital. Your new home or newly renovated dream home!
- The Market Value – the market value is an estimate of the sale price of your completed property.
Now, lets put all this together! So, if the amount of “Capital” you put into the purchase or creation of your new home is more than the “Market Value”, then you have overcapitalised. E.g., You spent $450,000 on your new house and land package, but you can only sell it for $350,000, meaning you will lose $100,000 of your capital.
So, do you need to worry about overcapitalisation?
Realistically, you only need to worry about the risk of overcapitalising if you’re going to sell your home very soon after completion. For example; an investment home. However, we find that most of our clients are looking to build a ‘forever’ home or are looking to stay in their new home for an extended period, which significantly reduces the risk of overcapitalisation.
Appreciation of your home
The other consideration is that your home will “appreciate” in value over time. In urban area’s this is a lot faster than regional areas, but generally speaking, your home will always appreciate. With that in mind, though, you don’t want to build a million-dollar house in the street with $250,000 homes – you’re most likely going to end up at a dead loss.
Realistically, you only need to worry about the risk of overcapitalising if you’re going to sell your home very soon after completion
Research, Research, Research.
The critical thing in deciding what a suitable level of investment is for your home is to research. Firstly, look at your proposed improvements and get a reasonably accurate idea of what you will be spending all up. Then, speak with your local real estate agents and browse a website such a www.realestate.com.au or www.domain.com.au. A local real estate agent will be able to advise you on property values. This will help you to ascertain whether what you are investing is roughly in keeping with what the market value is for the area.
Unique Design or Off The Shelf?
When you’re considering whether to build modular, you will no doubt have to make a decision on what level of inclusion you require.
If you’re looking to build a home for the lowest possible cost, then you need to consider a project type home with an “off the shelf” design and minimal inclusion choices. If you’re looking to build an investment home, then this ultimately makes sense. However, if you’re looking to build a ‘forever’ home, then isn’t it worth spending a bit extra to get it right.
Yes, by doing this, the risk of overcapitalising is higher, but, is that worth worrying about if you’re not selling? Who knows what the property market will be like in 5 or 10 years? Why not spend a little extra to create a unique design that precisely suits your needs, with quality fittings and well thought out energy efficiency ratings.
If you design your home right, with quality fittings, not only will your home be more comfortable to live in, your running costs will be less. So we’re back to reducing the chance of overcapitalisation again!
Will a modular home devalue my property?
No! If you choose to build your home with a reputable modular home builder OR onsite builder, then your home will not devalue your property.
We build modular homes to the same National Construction Codes and Australian standard that all homes in QLD and NSW must satisfy. Modular building allows the builder to complete 80% of the work offsite in a controlled and efficient environment.