They add more wards as they fill up. If it was simply 'all the larges and mediums are full, better add more' nobody would end up buying smalls, so there'd constantly be wasted space. Just curious though, if you only have 10 active members why not just get the smaller house? With the basement added in 2.2 they are actually decent sized for small FCs, and with private rooms coming soon the house itself doesnt need as much space since everyone will have their own room to personalize as much as they want.

My FC got a small house and were intending to save for a medium in the future, but we're pretty happy with the little one we have now.