Adding extra space for family, guests, or renters is a smart way to invest in an existing home. Many people do this with accessory dwelling units (ADUs), which are secondary housing structures on an existing property.
Is this investment opportunity right for you? Let’s explore the benefits, requirements, and financing options to help you decide.
What Is an ADU?
An ADU is essentially a mini living space that is either a separate structure on the property or attached, with a separate entrance to a single-family home or garage. When attached to the existing structure and built within the same footprint, it’s known as a junior ADU (JADU).
ADUs are on the small side, often in the range of 500-1,200 square feet. Local ordinances typically define the maximum allowable size, which could be a flat square footage or a percentage of the original structure. Whether attached or separate, an ADU comes with amenities that allow the occupant a degree of independence, including a separate entrance and some level of kitchen and bathroom facilities. If you’re looking to expand your home or enhance the value of an investment property, ADUs offer a cost-effective and space-efficient solution for adding living space.
Benefits of an ADU
One of the biggest benefits of an ADU is that it’s a practical solution for homeowners looking to maximize their property's potential, both now and in the future. Let’s take a look at some of the reasons you might consider investing in an ADU.
Creating Affordable Housing
By creating additional space on existing property, ADUs offer the opportunity to provide affordable housing options, especially in a tight rental market in a dense urban environment. These are often built to accommodate elderly parents or kids who are returning home.
Generating Rental Income
Expanding your space with an ADU can generate ongoing returns in the form of rental income. Even if you don’t choose to rent the unit full-time, having the option allows for more financial flexibility.
Offering Flexible Living Arrangements
Whether you’re planning for multigenerational living or just want some private space for visiting guests, an ADU can alleviate the pressures of having more people in your home. A private entrance and the ability to cook gives everybody a little extra space and privacy for daily life.
Increasing Property Value
Whether you rent out the unit or keep it private, adding an ADU will increase your property value so that when it comes time to sell, you can ask for a higher price. If you’re working on a fix and flip, adding an ADU can help you maximize the return on your investment.
Regulations and Requirements for ADUs
Depending on the local ordinances, regulations might vary, but the California Department of Housing and Community Development has some general guidelines that must be followed. Your homeowners association (HOA) might also have specific requirements beyond the local regulations, so conduct thorough research before starting the project. In addition to those requirements, accessory dwelling units in California are subject to some standard regulations.
Size Limitations
California ADU law says that maximum unit sizes are 1,200 square feet for a new detached ADU and up to 50 percent of the floor area of the existing primary dwelling for an attached ADU (at least 800 square feet). However, local agencies could have ordinances that allow for larger units.
Entrances
Detached ADUs have separate entrances and share no walls with the primary structure, whereas JADUs typically must have both an entrance to the main home and a private entrance from the outside.
Amenities
ADUs must have a kitchen that meets the minimum size requirement with a sink, stove, and adequate space for food storage and preparation. A three-quarter bath is also required for a standalone ADU, whereas a JADU can share a bathroom with the primary residence.
Zoning
In California, any zone that allows for single-family residences also allows ADUs. However, there may be local exceptions based on access to utilities and health and safety considerations.
Permit Processes
The requirement for a permit will vary depending on the jurisdiction. When permits are required, the town is not allowed to charge impact fees for units less than 750 square feet.
Owner Occupancy
You are not required to live in the primary residence if you want to build a detached ADU. However, the owner is required to occupy the main residence for a JADU, so factor this into your decision-making if you’re improving an investment property.
Safety Standards
ADUs are subject to the same local requirements the primary home must meet, including fire protection and other life safety code provisions.
Financing an ADU Project
There are several ways to finance an ADU or JADU if you don’t have enough cash on hand. To address the housing shortage, California offers several grant programs to offset the cost of building or improving an ADU. Some jurisdictions also provide financial incentives for adding affordable housing through building ADUs.
If you have sufficient equity in your home, you can cover some or all of the cost to build an ADU with a home equity line of credit. Some banks also offer ADU loans to help you get your project off the ground.
If you aren’t able to get a loan through a traditional bank—or if you just want to move more quickly—a private construction loan could be the answer. Private lenders will often use the value of the “as-complete” project to provide construction funds needed to get the ADU(s) built. This is a particularly popular path for real estate investors because it can be more difficult to get a traditional construction loan for an ADU if you’re not building on your primary residence.
Finance Your ADU with Herzer
If you want to improve an investment property with an ADU, a private construction loan through Herzer could be ideal, especially when a traditional bank falls short. With deep experience in the California market, our team can move quickly, which means you can too.
If you’d like to learn more about private loans and how they work, check out The Borrower’s Guide.
