Is it cheaper to build a home or buy one

A strong local real estate market may be tough to tackle, especially for first-time buyers, but the pandemic is making it even harder. The effects of COVID-19 and low interest rates are adding heat to the market in many areas of the country, particularly in places like Salt Lake City, San Diego and Austin.

Rather than enter into a multi-bid situation that can drive prices up, potential buyers may be asking themselves, is it cheaper to build a house or buy one? Answering this question, however, requires balancing many important factors beyond cost alone.

Is it cheaper to build a house?

According to the National Home Builder's Association, new home prices have generally risen more than those for existing homes (PDF). The most recent numbers report a median price of new homes in the country of $390,500 for new homes, compared with $367,000 for existing homes. As prices in the existing housing market have risen over the past year, the cost of raw materials has also increased, keeping newly built home prices high as well.

When is it cheaper to build a house rather than buy? If you're searching on a price-per-square-foot basis, you can find opportunities in certain markets. HomeAdvisor calculates the cost per square foot to build a home to be between $100 and $200, based on actual projects. In cities with a high cost of living—such as San Francisco—the price was much higher, up to $400 per square foot. As a result, location can significantly influence the answer.

Customization of a newly built home can also lead to cost savings. Existing homes are set in size, and their values fluctuate based on supply and demand. When you're building a home, you can choose the size to include only the space you truly need. You can also save money by not paying for upgrades like a finished basement, which may already be priced into an existing home.

Other factors that influence costs

Although purchasing or building a home is a complex process, the same complexity can work to your advantage when considering this question. Here are some factors to take into account.

Timing

Building a house takes longer than simply buying an existing home and choosing a settlement date. Before you build, you'll need to find and purchase land, then hire a builder and work with them to design the home. After approving the home design, you'll move to the construction phase, which is often dependent on other vendors and subcontractors. If you're not in a rush to move, this may ease the cost of building.

Limitations of renovating an existing home

No matter the size of your renovation budget, older houses cannot always be changed to accommodate newer home design trends, such as high ceilings, more windows, smart home features and the latest energy-efficient systems. Some buyers prefer the charm of an older home and are willing to work within these limitations. However, if you value modern features and efficiency more, it may make sense to opt for new construction.

Finished versus unfinished neighborhoods

Older homes are generally located in mature neighborhoods with sidewalks, shady trees and a built-in sense of community. If you're looking for this type of homeowner experience, buying may work best for you. If you choose to build in a yet-to-be-completed neighborhood, perhaps without any finished landscaping—or even grass—you may save money. You'll just need to be patient for construction to be completed and for the neighborhood to evolve into a community.

Land availability

The state of the housing market in your city or town may affect your decision to build or buy. Some areas of the country may simply not have much land available for real estate development, and parcels that are available may be expensive and in less desirable locations. In more rural or less popular locations where open space is likely more available, building a new home may be a better, more affordable option.

Financing

Before making a decision on building a house versus buying, it's helpful to know that the financing process is slightly different for each. When you build a home, you'll first need to apply for a construction loan. As the home is built, you'll pay only interest on the loan, but when the home is completed and you go to settlement, the construction loan will then convert to a traditional mortgage loan.

The bottom line

As you consider whether building a home is right for you, keep in mind that there are ways to manage this process. Ask your builder to add deadlines to the contract to maintain a reasonable timeline, and talk to a mortgage banker to learn as much as you can about financing a construction project. Ultimately, the best approach may be to remain open to either buying or building—so when the right opportunity comes along, you'll be in a better position to make the decision that works best for you.