Who's adding an ADU to boost cash flow?

Question

Answer

@Bonnie Low - my most recent completed project - all new construction.

Answer

@TeriFeeneyStyers we actually have already had someone from the building dept out there to look at the site. We would never proceed without that important step. Fortunately, everyone in the City building department has been just amazing to work with (and I know what a rarity that is!) so they've been more than happy to help. This town has seen some really rough times and the City is putting a lot of effort into revitalizing it. They are really appreciative of investors who are turning around eyesores and dangerous properties. That's one of the reasons we like this particular niche so much.

Answer

The ballpark estimate for garage conversion in my area are 60-80k. Dan do you think a stand alone new construction ADU can bring back enough value to justify the price? I built a 900 SF ADU for a customer of mine in Garden Grove and he spent 180k give or take with us. He got an appraisal done afterwards and they appraised it at 140k. The appraiser told him to wait a couple years and there will be more comps. His 900 SF ADU is basically a 2-bd house. We could have built it for under 100k if it were a personal project. He's currently renting the unit out for $2,400 a month. I'm not an investor but it seems like a good BRRR? Your thoughts?

Answer

I think there are better RE options than building an ADU, but the OP is an exception due to my belief with their skill set that they are qualified to provide a good cost estimate and therefore should be close to their $20k estimate. Most investors building their first ADU, I would allocate over 3x the cost for hands off construction and hands on typically would not save much for the investor with zero experience especially when accounting for hold time. Your garage conversion estimate is a tad lower than the range I would use for hands off garage ADU conversion in San Diego, but close enough (I would use $65k to $90k). A protege of mine sold a 3/2 home with a garage ADU conversion (1 large br) just prior to Covid. I estimate the appraisal gave him about 50% of the hands off cost for the ADU. Combine this with the typically less that optimal financing, the work involved, the loss of the garage and my belief is that there are typically better RE investments. I think your customer got a better appraisal than many investors who build ADUs are obtaining The non garage conversion ADU does not lose a garage, but it costs significantly more. It has the other same disadvantages and therefore I believe there are better options than building a ground up ADU.Our BRRRR track record indicates we can achieve better return via BRRRR (similarly not passive). As of this month, all of our BRRRR properties have had all our initial investment extracted. We are also achieving better return on our current off market acquisition for much less effort (not counting all the networking that allowed us to be in position for this purchase). In addition, with the ADU appraisals being significantly less than the hands off costs, an RE investor would be better off purchasing a property with an already built ADU (at 40% to 75% of the hands off construction cost) then building their own ADU. Less work and cheaper. It is my belief most RE investors can achieve better return via multiple other RE investments (including some syndications). It is also my view that the OP has better experience/skill in this area and if they can do a garage conversion for close to their $20k estimate, then the garage conversion ADU can be a good strategy for the OP. I would do these ADU conversions easily if I believed I could do them for $20k. I cannot, so we do not concentrate on ADU conversions.

Answer

@Bonnie Low I have built separate units, split houses to have several units, built two tiny houses on one lot, etc. It was profitable every time. However, I would suggest that you visit your local building department. A detached garage may not pass basic code for a residential structure. Often the slab is not the proper depth or design.

Answer

From your profile, I believe you may be able to do your garage conversion ADU for close to that price ($20k). For most people, I would estimate the hands off cost at at least 3 times that amount. For a hands off investor who spends $60k+ for a garage conversion ADU, the ADU is not a value add in that an appraiser is unlikely to give $60k value for the ADU. However, if the ADU can be built at an all in cost of $20k, then it likely is a value add as I suspect an appraiser will give at least $20k of value and hopefully quite a bit more If you can successfully convert a garage to a legal permitted ADU for $20k, I think you have found a niche that leverages your existing knowledge and skills and that you could do very well with this plan. I see little risk if the ADU addition is an additional value add to the standard BRRRR rehab value add. No one that I am aware of has argued the cash flow benefit of the ADU. What makes it not a great option for many investors is the high cost of construction combined with the appraisals coming in less than the hands off cost. Your scenario does not have this issue because your cost will likely be less than the value set by the appraiser. For most investors, the better return is purchasing a property that already has the ADU. they will end up spending less going this route than doing a hands off ADU build. When you complete your first ADU, please post your actual costs. I do realize subsequent ADUs will leverage the lessons learned and likely cost less. However, I am interested in how inexpensive the ADU build can be done by someone with the right knowledge/experience. Good luck

Answer

@Teri Feeney Styers that is gorgeous! Love it!

Answer

@Jason Gettler - I should have mentioned that we're not doing new construction on this one. It's already a detached garage that has water, power and sewer on site. This is more of a cosmetic conversion to an ADU. We also do a lot of the work ourselves. For us, the power of this deal is in the additional cash flow it will generate. Our initial BRRRR will not include the finished ADU so we won't be pulling that $ back out until we eventually sell or do a refi again later down the road.The ADU you built sounds like it cash flows well, but it doesn't sound like a BRRRR if I'm understanding it correctly because he sunk more into the build than the comps are putting the value at. So there's nothing he can pull back out. That is, unless he's got a lot of equity in the main house on that property??

Answer

@DanHeuschele you're correct that we have an advantage that it's already an existing structure at the back of a large lot so there's a lot to work with. Even though it's technically a detached garage, at one point they installed a bathroom so not only do we have a slab and shell to work with, it's already got water and sewer to the building. So yes, our all in cost to develop it is much lower than it would be to build from scratch. Frankly, we were really surprised at how much rent it could generate, but our market is really, really tight, so there's that going for us, too. I'll be sure to provide an update on how it pencils out. You can also follow our fb page if you can find it (I'm not sure BP lets us advertise it here.)