Investors love ADUs and ADU Investment is hot, hot, hot. The ROI of an ADU is almost always a positive cash flow real estate investment from the moment it is ready to rent.
However, the details of ADU investment are not always obvious.
I interviewed Will Tiao – owner of Tiao Properties. His company specializes in real estate investment properties and property management. You can view the entire video below with chapter markers for the different topics.
I will summarize his advice for real estate investors as well as add my own expertise as an ADU expert to give you the best ADU Investment Guide possible.
Table of Contents
Multifamily ADU Laws
When California enacted its groundbreaking ADU laws in 2020, it also made it easier to add an ADU investment to multifamily units. The ROI on adding an ADU is obvious and it is a huge incentive to add much-needed housing.
Number of Allowable ADUs
If a property is zoned for multi-family you can add 2 detached units. The size and set back requirements will follow California ADU laws and local jurisdiction requirements. This means a two-story ADU or an ADU built over an existing garage, for example, may not be allowed in your city.
In addition, you can create additional ADUs by converting existing attached space such as recreation rooms, storage, or attached garages. The state requires at least one unit is allowed by converting space. However, some cities approved the alternative rule – 25% of total units may be added through conversion.
This means a 4-plex could become a 7-unit multi-family property, and an 8-unit could become 12 units.
Additional parking for the ADU is not required if the property is located within a half mile of a public transportation stop.
You are not required to replace parking if you convert a garage or carport to an ADU.
A separate utility meter on an ADU investment is not required. However, Will highly recommends it.
Effect of ADU Laws on Multifamily ADU Investment
Surprisingly, the new ADU laws have not dramatically changed the purchase prices for 1 – 4 residential income property prices.
Will thinks this is because the competition for these units is already very high.
Existing Tenant Objections To ADU Investment
Adding an ADU to an investment property will disrupt the existing tenants. The good news is that while they can complain, and you may need to compensate them for loss of use or inconvenience, but they can’t stop you from adding ADUs.
The thorny question is how much compensation is deserved.
There is no set formula, it depends on the nature of the loss, the dynamics of the rental market, and your relationship with the tenant. The compensation for the loss of a lawn area is probably less than the loss of a well-utilized storage area, for example.
Opportunities For ADU Investors
ADU investment benefits extend beyond a simple investment/rental calculation.
In Los Angeles, multifamily units built before 1978 are under the rent stabilization ordinance. However, any new detached ADU are not under rent stabilization.
That being said… there is a lot of room for interpretation. For example, what is the status of an ADU that is converted space in a pre-1978 structure?
Rules for rent stabilization vary widely from city to city, be sure to check local rules for your area.
1 – 4 multifamily units qualify for residential financing while 5 units or more must use commercial financing. Residential allows a low down payment, lower interest rates, and 30 year terms. Commercial does not.
The opportunity- when you add the maximum number of ADUs to a residential multi-family, a buyer can still use residential financing to buy it, even if there are more than 4 rentable units.
Bonus Read: ADU Financing Update– everything you need to know about financing an ADU in a higher interest rate environment.
After COO ADU Conversions
Similarly, a developer can use these rules to develop more units than the zoning will allow. One could include generous common or utility space, obtain the certificate of occupancy (COO), and then convert that space into the maximum allowed ADU units from converted space.
ADU Investment Income
Detached ADUs rent for more money than your average apartment because they are a mini house and NEW.
But there is also demand for small converted space ADUs. Will says he rents 200 and 400 sf units in Boyle Heights all day long. There is a huge demand for low cost rental housing!
California ADU Grant
We covered the details of the $40,000 California ADU Grant in a previous post.
The grant applies to owner-occupied property. If you occupy one of your units, you might qualify for the grant.
Will Tiao- Tiao Properties