How Are ADU's Appraised

Question

Hello all,

I am looking at adding value to multi-family projects with ADU's but I was curious how the values of the ADU's are appraised. I'm sure comps may be lacking in certain areas. Do appraisers value ADU's equal to other multi-family structures?

Appreciate any help on the matter.

Peter Mckernan · Answer

It really comes down to making sure that you have comps in the area, if you do not have comps then you can be in a situation where the property does not appraise out verse just hoping it will appraise. The thing to do is to get with a real estate agent/professional who can pull these details and see if they match up to what you are thinking on price etc.

Brett Walsh · Answer

Hi Golan,

Great question!

I am a licensed general appraiser in California and have been dealing with this topic for the previous two years.

Appraisers typically have three approaches/methods to determine value. I have listed these methods below and how the ADU would impact these approaches.

1. Sales Comparison Approach - Appraisers will use comparables (comps), which are similar properties that are analyzed and compared against the subject property. You make a good point in that it is often difficult to find the perfect comp that also has an ADU. However, an appraiser should consider the utility of the ADU and simply treat it as another unit. The difference between an ADU and a dwelling unit is really just the naming convention, it is still a place to live and is legally permitted to collect rent. Therefore, it would not be unreasonable to compare a duplex with an ADU to a triplex for this approach. This approach would likely be the most reliable for properties under a $10MM deal size (From my experience). 2. Income Capitalization Approach - Simply speaking, the appraiser determines a value from this approach by dividing the Net Operating Income (NOI) by the market cap rate. An ADU can generate additional rental income, which will positively impact the NOI. The extent of that increase depends on rent levels in the market and other related expenses. Income Capitalization Approach is typically considered the most reliable approach for properties with a greater deal size of $10MM. However, most market participants will utilize this approach for commercial properties (5+ units).

3. Cost Approach - The Cost Approach analyzes the value of a property by analyzing the cost to construct the structure. Simply put, the appraiser determines the value from the cost approach by adding the cost of the underlying land, hard costs, soft costs, and entrepreneurial profit. The appraiser then makes deductions for any type of physical deterioration or obsolescence. This approach makes sense for properties that were recently constructed. You could consider the cost to construct the ADU (plus profit) as a general indication of the impact on the value of the property. However, in my experience this method would result in a indication of value.

I hope this is helpful. Please note that these comments are based on my experiences and conversations with market participants in the Los Angeles, Orange County, and Inland Empire metro areas regarding multifamily (5+ unit) markets. Please reach out if you have any other questions.

Brad S. · Answer

Well, hopefully we have comps with similar adu's. But, in the past I have been able to find comps with guest houses and used those, since they had similar utility. But, luckily I have not had any assignments where I had absolutely no comps. I might use a duplex for an sfr + adu, but that would not be my preference and I'd have to look at the data and see if one or the other might have a different appeal. Some differences are that an adu typically are restricted from being used as str's, in some areas, so that would limit their utility. Some appraisers might rely more on the depreciated cost to value the adu or use an income approach multiplying the market rent by the average grm (gross rental multiplier). It gets to be more of an art when comps are lacking.

Dan H. · Answer

In CA most markets, ADUs are not receiving values like other structures of MF.  there is clear exception for ADUs in areas with a significant MF presence.  In most markets ADUs are receiving values of $50k to $100k which is far less than hands off cost to add an ADU.

@Golan Corshidi I am not a lender but was under the belief that recent rule changes allow (or will allow - not sure when it goes into effect) conventional loans to use 75% of ADU rent.  Please check this.

Best wishes

Golan Corshidi · Answer

@Dominic Pizzi interesting. thanks for your feedback.

Dominic Pizzi · Answer

Hey Golan,

Appraisers will include the ADU in their value aspect of the property, but more often than not, the Fair Market Rent that is to be seen on the property will only come from the main structure.

This also may depend on the appraiser or AMC you choose to use.