The Economics of New House Construction

An investor purchased a vacant 2,700 sq. ft. corner lot in the south Berkeley flats in late 2007 for $259,000. A building permit was issued in Oct. 2010 and nine months later, a brand new house comes on the market for $724,000. The address is 1306 Derby St. After 30 days on the market, the price is being lowered to $699,000. Will this be a money maker?

Let me give you some details before we find the answer:

The owner originally commissioned architect William Colburn for the design but another architect, Richard Tapp was brought in to revise the plans that were then approved. According to the marketing flyer from the Realtor, the finished house has 2,050 sq feet of living space, with 3 bedrooms and 2.5 baths.  

 Some of the construction features listed in the flyer are:

• Traditional entry porch with slate paving, columns and stained oak front door:
• Large living room-dining room with double French doors opening onto patio and courtyard;
• Beautiful rich walnut stained hardwood floors;
• Spectacular kitchen featuring custom shaker cabinets with glass panel doors, honed granite countertops, large center island with stool seating and all stainless steel GE appliances;
• Large master bedroom with high vaulted ceilings and large sunny windows;
• Trellis-covered patio and landscaped garden.

Architect Tapp confirmed what I already knew: most experienced contractors would bid this level of custom construction at something like $300/sq ft. In this economy however, maybe you could get a bid as low as $250/sq ft. So, with 2,050 sq ft, the hard costs of construction would be at least $513,000. This doesn’t include the substantial “soft costs” of the original purchase closing costs, the architectural, engineering and permit fees, the holding costs, and the sale closing costs. So add another $40,000 minimum.

So if the lot cost $259,000 and the construction and other costs are likely over $553,000, the owner has at least $812,000 into the house. That’s $396/sq foot.

The asking price is now $699,000, or $341/sq ft.

In the last six months, the most expensive house to have sold in the immediate area, with at least 1700 sq ft, was for $274/sq ft.

Ouch!

One saving grace, in this case at least, is that the contractor is also a partner and co-owner. So rather than charging something like $250/sq ft for the actual construction, we can presume he charged less up-front with the hope of making his profit on the back-end, with a share of the equity when the house sold. But despite this benefit, the non-contractor owner assured me that he is personally looking at a substantial loss.

Finding a flat vacant lot to build on is pretty rare in Berkeley. Finding one at a price low enough to make sense building on is even rarer.

By the way, this Berkeley vignette is illustrative of the entire new home construction industry, a huge source of jobs in our economy. Pretty much everywhere in the country, where housing prices have collapsed due to foreclosures and short sales, builders cannot afford to build new houses where the existing inventory is available at a much lower cost.

Brett Weinstein is a 30+ year resident of Berkeley and the broker and co-founder of Realty Advocates, a Berkeley and Oakland focused real estate firm in business since 1986. Besides appreciating Berkeley’s architectural treasures, he has found over 100 murals painted throughout the City. Click here to see his archive, or .