How will you pay for the ADU?

Everybody’s situation is different, and it is always advisable to talk to a financial consultant. We are not financial advisors. For most of our clients, if they have savings or fairly liquid assets, it usually makes sense to pay for the ADU out of pocket, rather than finance it with a loan.

For those that don’t have enough savings, but have good equity in their home, a HELOC (Home Equity Line of Credit) can be a good choice. Here are a few examples of loans:

A HELOC for $75,000, with a 20-year term, at 6% interest, adds $537 to your mortgage payment. 

A $200,000 HELOC, with a 20-year term, at 6% interest, adds $1,433 to your mortgage payment.

These are sample rates from 2022, and your rate will vary, but some good rough numbers to give you an idea of costs. With the right loan/rent ratio, you can build an ADU that pays for itself and gives you a monthly income, while adding significant value to your property, and helping to provide more housing in our community.

Another finance option is to get a construction loan and then refinance the whole mortgage when construction is complete. This can be a good option if your current interest rate is a bit high and you already want to refinance to get a lower rate.

Are you going to rent the ADU?

Renting an ADU is a great way to pay for building costs and add extra monthly income.

According the the UCSC Housing Department, for 2021, studio apartments within the city of Santa Cruz rented for an average of $2,000/month, 1 bedrooms apartments for $2,900/month, and 2 bedrooms houses average $3,500. New ADU’s typically rent for more because they are in new condition.

Here is an example of how a loan can work:

You have a 500 sf garage that is in good shape and you would like to convert it into a 1 bedroom ADU. We go through the design and estimating process and the bid is for $200,000. You have some savings but don’t want to spend it all, so you decide to pay $125,000 out of pocket, and get a loan from your bank for the rest. Interest rates vary over the years and banks offer many types of loans, but for this example, let’s assume you get a $75,000 HELOC, 20 year loan, at a fixed 6%. This works out to be a monthly payment of $537. We build the ADU and then you rent it for $2,900 per month, which is an average rent for a new ADU of this size. If we assume there is a small increase in property tax and insurance of $250/month, you have a net gain of $2,113 per month. At the same time, your property value has risen by at least $200,000. And you now have more flexibility in your life. You could have a friend or family member live there if needed. You could move into it when you want to downsize and go travel while you rent out the main house. Or have live-in care next door, in your later years, when you need a bit of extra help.

Are you going to have family live in your ADU?

As our parents and kids get older, our living needs change. The kids hopefully grow less dependent, while parents can often use a little extra help.

Having your elderly parents live in an ADU on your property is a great way to lend a helping hand and save them money on rent, while not have them living in your home. They enjoy the security of knowing family is nearby, and you could potentially benefit from their presence by having them help with kids or simply taking care of the house when you’re not around. Many of our past client are really enjoying this setup.

ADU’s can also add space for older kids, especially when they are ready for more independence or if they are going to college nearby. Many parents are concerned their kids will not be able to afford the expensive cost of living in Santa Cruz and will have to move away once they leave home. An ADU can give them their own living space with a private entrance, but allow them to stay in town. And you can still charge them a reasonable rent!

Will you use the ADU as a home office?

Having a separate office space could help define your home business. An ADU can be configured to function as a small office, with a client greeting area, separate workspaces, and even a separate entrance if you have an alley or side yard. The design is up to you.
 

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