Is it Worth it to Build an Accessory Dwelling Unit?

Since January 1, 2020, Accessory Dwelling Units (ADUs), have become an increasingly popular option for homeowners in California. Many are interested in generating income from their home while helping to increase housing options within their community. In San Diego County where housing is scarce, building an ADU can help a community on multiple fronts, as it directly reduces housing shortages, provides homeowners with additional income when rented, and can increase the overall resale property value of homes.

THE COST TO BUILD

Building an ADU is cheaper than building a single-family house with an average cost range from $150,000 to $275,000. Costs may be higher if you want more square footage or higher end finishes. Costs can be lower for conversions of garages or sheds, with costs as low as $75,000.

A permitted ADU may be added to your title insurance report and will invariably increase your property’s value as both an increase in square footage and as an income producing property. A tiny home or an unpermitted ADU will not be picked up on a title report and the property owner will only realize the value of the income production from renting the unit.

DEVELOPMENT FEES & MUNICIPAL PERMITS

Prior to Jan. 1, 2020 when new ADU and affordable housing laws [1] went into effect, cities could charge development and impact fees that could total $15,000-30,000. However, with the passage of recent state laws, impact fees on ADUs less than 750 square feet have been completely eliminated. Fees on ADUs 750 square feet or more must now be proportional to the size of the ADU relative to the primary dwelling unit. ADUs will still trigger sewer connection fees and capacity fees, but those fees must also be proportionate to the size of the ADU. In total, permit fees have been reduced to $5,000-12,000 on average (or about $10/sqft of the ADU size).

Furthermore, cities previously made development of ADUs cumbersome with additional parking requirements, landscaping, and draconian setback requirements. These recent laws have eliminated such requirements and also driven down the total cost of constructing a new ADU.

TAX IMPLICATIONS

When you build an ADU, your property will be subject to reassessment for tax purposes. A “blended assessment” is used, which means the assessed value of the existing home will stay the same and the newly assessed value of the ADU will be added to the existing home’s value (existing home itself will not be reassessed). The assessed value set when the ADU is added to the property will then be taxed at 1% and up to 2% annually, for a typical increase of $1,000-2,500 a year.

Constructing a new ADU will lead to an increase in your property tax payments, which is to be expected with the increase in your property’s value due to the new construction. With that said, taxes aren’t all bad… those taxes are directly poured back into your community to help with items such as new streets and better schools.

RESALE VALUE AND REFINANCING

Constructing an ADU on your property typically increases the resale value of the property, since the house will be appraised with other homes with ADUs. Properties with an ADU sell for a premium since they include an income-producing unit and more square footage of livable space on the property.

What is often forgotten is that an unpermitted ADU will not show up on an appraisal of your property. If the ADU is not included in the appraisal, it may limit your pool of buyers when it is time to sell the property. Many buyers will make a financed offer, meaning the home will need to appraise at the purchase price in order for the buyer to secure the loan. Building a permitted ADU allows an appraiser to include the value of the ADU in the appraisal associated with resale of the property, which invariably leads to more competitive offer prices from buyers.

Further, having an ADU helps the property appraisal when refinancing the home, which may provide homeowners with equity they otherwise wouldn’t have had available. (Read more about financing options for ADUs)

RETURN ON INVESTMENT (ROI)

ADUs have the potential to be a great return on investment as well. An 800 square foot 2 bedroom / 2 bathroom ADU that costs $220,000 to build can be rented for approximately $2,800 per month in much of Oceanside and Carlsbad. Budget for maintenance costs, taxes, and insurance and that’s still more than $30,000 per year in your pocket.

[1] Senate Bill 330 (Skinner) (SB 330), entitled the “Housing Crisis Act of 2019”, Senate Bill 13 , Assembly Bill 68, 881, 670, 587, and 671. All became effective January 1, 2020 and expire after five-years.