Housing & Mortgage
ADUs Part 1: Your Garage or Basement Turned Into Highly Profitable Rental Unit
Reacting to housing shortage, cities are allowing extra units in single family neighborhoods
California, Vermont and dozens of cities around the country are lifting long-standing rental bans on garage apartments, basement conversions and other apartment-like dwellings on single-family lots. If you’re a homeowner anywhere else, you should be jealous.
The new laws give affected homeowners a way to lower their own housing costs, temporarily or year-after-year. When finances are tight, a renter in the backyard takes a major chunk out of monthly mortgage costs. When the bank account is flush, the unit turns into a guest house, office or starter apartment for an adult child.
If there’s a layoff, big medical costs or tuition bills for three kids at once, it’s a place to live while collecting mortgage-covering rent on the main house. Or it’s your retirement home behind the house where your kids can raise your grandkids. And when you’re ready to sell, the unit will give your property a considerably higher market value than your family home alone.
Suppose your all-in homeowner costs — mortgage payment, taxes and insurance — are running at about $3,000 a month, and you could reduce that by $1,000 with a small rental unit?
In other words, a rentable accessory dwelling unit (ADU) is a highly flexible financial asset that can be tapped at will, without reducing its value. These unique benefits make ADUs and their restrictions worth researching, whether you’re buying a home or considering building a rentable unit on your own lot.
To clarify, ADUs refer to self-contained residential units located on the same lot as one larger home. They include stand-alone buildings, garage apartments or suites inside the main home, such as an attic or basement build-out. They must include a separate kitchen, bath and outside entrance. A backyard unit sometimes is called a DADU (D is for detached), or JADU (junior) if under 500 square feet. Sometimes size restrictions apply —- most are under 900 square feet — but outside decks often make them feel larger.
These are not traditional investment properties. Cities that allow ADU rentals typically require a property owner to live on site, and the units usually can’t be sold separately from the main house.
Many cities are becoming more restrictive about short-term rentals, such as on Airbnb or Vrbo. But those platforms are major sources of income, both legally and, at times, outside local rules, for ADU owners. Before considering building an ADU for short-term rental use, if it’s legal in your city, it’s best to calculate traditional rental income and make sure that fallback position would also be profitable. Short-term rentals can bring in two or three times the income, though costs and hassle are higher.
Your neighborhood is most likely allowing ADU rentals, or considering doing so, if the area’s housing costs are high. Legal acceptance has grown as housing shortages have pushed the cost of living in places to extreme highs in places like Boston; Boulder, Colorado; Minneapolis; Washington D.C., and job centers throughout the West Coast. To increase supply, lawmakers are overriding very common — and often popular — local zoning laws that restrict most residential lots to single family homes.
AccessoryDwellings.org offers some city-specific information about ADU rental rules. However, your best place to start is the .gov site for your location. Places that encourage ADU rentals usually have dedicated pages for homeowners, often with step-by-step instructions, from design requirements and permitting, through final inspections.
A quick search of rental prices in your neighborhood might pique your interest in the concept. A garage converted into a backyard cottage in Seattle’s Greenlake neighborhood, for example, rents for $130 a night on Airbnb. A 500-square-foot ADU inside a close-in Sarasota, Florida, house rents for about $1,000 a month.
The wide variety in types of ADUs gives you some control over the cost of creating a rentable space. You might be able to convert a basement for the price of constructing an efficiency kitchen. Spending over $120,000 for detached new construction can still work out to considerable extra income with a home renovation loan or other financing. We’ll talk more about how to estimate returns on your own ADU in the next installment.