What Is The Best Option For Financing My ADU?

Accessory Dwelling Units (ADUs) can be an incredible opportunity for homeowners to increase their equity and generate rental income; Accessory Dwelling Units can also be a great option to save money versus going out and buying a new home or putting what would otherwise be rents paid to someone else into your own property’s value. Nonetheless, while the benefits of ADUs are touted left and right, even if you’re certain an ADU will benefit you and work well on your property, you may be wondering how you are going to finance one.

You aren’t alone! Financing an ADU is probably one of the biggest questions out there and the hardest to find information on. There are a few ways to finance an ADU and the best option is really going to depend on your financial preferences and circumstances. Here are some of the most common financing types most of our ADU clients use for their builds.

  1.     Cash

If you have wads of money lying around in the bank, or maybe you just sold another home and want to use the proceeds to invest in your own backyard, you might just decide to finance your home using cash. The average ADU costs around $150,000-350,000 all-in so if you are thinking all cash or even cash + another financing option, you might end up with a better return on investment than the .06% your savings account has to offer, or even a 1.5% CD.

  1.     Personal Line of Credit

If you have a good credit score, you could finance a small portion of your build with a personal line of credit – such as a bank loan or credit card. Personal lines of credit often require less paperwork, but can have a higher interest rate and smaller loan limit so you’d have to use this kind of financing as supplemental or pre-build financing (A lot of people use this kind of financing for design plans, permitting costs and site prep costs).  

  1.     HELOC (Home Equity Line Of Credit)

HELOCs are a good option if you have a decent amount of equity built up in your home and essentially make your house your bank – A lender will appraise your home and you can often get up to 80% or so of the home’s equity (Value – Liens = Equity) that you can draw on for your project. A HELOC differs from a Home Equity loan where you get a lump sum of cash instead and is best for an ADU project because you’ll pay interest only on what cash you pull out rather than the whole sum. [i]  

  1.     Cash Out Refinance

A Cash Out Refinance option also takes advantage of your home equity, but in a slightly different way much closer to a Home Equity Loan (which is a second loan in addition to your primary mortgage). A Cash Out Refinance is a primary mortgage where you get a lump sum in cash of your home’s equity. Let’s say you bought your house years ago for $200,000. Today, your home has a market value of $350,000. If you still hold a mortgage for $50,000, you effectively have $300,000 in equity. A Cash Out Refinance can take your existing mortgage for $50,000 and roll it into a mortgage for $350,000 giving you a $300,000 lump sum payout in cash. If you have enough equity in your home, this is a valuable option as well. [ii]

  1.     Construction Loans

Construction loans can be used for ADUs if you don’t have immediate cash or equity funding options to fund the build (although about a 25% down payment is often required to offset the lender’s risk). These kinds of loans are short term (from the start of construction to completion), usually about a year, and can roll into a mortgage that is more long term if needed. Often, for an ADU you will use what is called a construction-to-permanent loan, because otherwise the construction loan must be paid off directly after build completion.  Construction loans won’t cover your design, permitting or other costs so you’ll most likely use other kinds of financing in conjunction with a construction loan.[iii]

  1.     Renovation Loans (Homestyle and 203k Loans)

Renovation Loans are great loans for ADU construction, but a little tougher to come by due to loan restrictions placed on lenders who offer this option. Renovation loans are backed through governmental financing. Fannie Mae offers what is called a “HomeStyle” loan which can assist in financing detached ADUs[iv]. The FHA offers a 203k loan for attached or conversion ADUs[v]. The cost of your mortgage is “based on the projected value of your home after the renovation is completed, taking into account the cost of the work”[vi]

These are just a few of the most common ways some of our clients finance their ADU builds and even the pre-build costs like design, permitting and site preparation. If you want to know about the many financing options in greater detail, the California Department of Housing And Community Development has a very thorough guide that you can access here: https://www.hcd.ca.gov/policy-research/accessorydwellingunits/docs/cc%20adu%20finance%20guide%20for%20homeowners%20v5%203.18.21_ada.pdf

REIG ADU Construction has been a contractor for over a decade serving Southern California. We build ADUs in San Diego. While we do not offer any kind of in-house financing options and cannot give any formal financial advice regarding your ADU, we are always happy to point you in the right direction and connect you with lenders who may be able to help you no matter where you are at in the ADU process – from dream stage to build stage. We pride ourselves on excellence and transparency. Contact us for free with any questions about your project. We are here to help. (Connect Today) or feel free to connect with a lender HERE (https://www.sd203k.com/finanadu.html

*REIG ADU does not endorse any lender. All lender connections are for the sole purpose of assisting you in your ADU financing research. Always conduct due diligence for any lender and loan you assume. 

[i] https://www.americanfinancing.net/refinance/maximum-home-equity-loan-amount

[ii] https://www.rocketmortgage.com/learn/cash-out-refinance-vs-home-equity-loan

[iii] https://www.forbes.com/advisor/mortgages/construction-loans/

[iv] https://www.fdic.gov/consumers/community/mortgagelending/guide/part-1-docs/fannie-homestyle-renovation-mortgage.pdf

[v] https://www.fdic.gov/consumers/community/mortgagelending/guide/part-1-docs/fannie-homestyle-renovation-mortgage.pdf

[vi] https://www.hud.gov/sites/documents/2005-09FHA.PDF

Are you interested in finding out where to start with your Accessory Dwelling Unit plans? We can help you!