80k to Invest and Overwhelmed by Choices. Help!

[Steven Henao]

We have 80k to invest but feel paralyzed by the many directions to take! Please help!

Some background:

We bought our first property last year (2023) for $675k. A SFR 3/2 in Long Beach, CA that needed some work. It appraised for 725k at the time of purchase and has been holding steady since. Our plan was to do an ADU garage conversion (I know, super original), rent it out Short term / Med term, and then spruce up the main house after a couple of years of the ADU income.

So, we started the ADU permitting process right away…

The main house was livable but very old. It needed some TLC, and over the months of living there, we slowly started feeling claustrophobic. We couldn't hold it and decided to start on the renovations early while we waited for the ADU permit. Some of the work we did ourselves, but most of it we contracted out.

Fast forward to today, 

We spent about 70k on all new bathrooms, flooring, minor upgrades, and a badass kitchen. Our plan basically reversed, and we now have a beautiful main house but no ADU and no cashflow yet. We haven't received a new appraisal with the updated renovations, but we're estimating a solid chunk of equity has been added.

We'd like to invest the 80k in the ADU since that's a guaranteed >2k rent per month, but are feeling a bit doubtful in this moment. Do we really want to have all our eggs in one basket? It feels like a huge chunk has already been put into this property. Would it be better to invest it elsewhere? Should we consider different financing options? Did we chose the right location to have an ADU?

So BP, what do we do? 

Any tips, advice, thoughts appreciated!

[Dan H.]

$80k is way too low for a hands off garage conversion ADU in LA. It will have total costs approaching double that price unless you are planning on doing a significant amount of the work yourself.

In most areas ADUs cannot be used for STR (less than 30 days).

in general ADUs are one of the worse RE investments largely due to the cost of adding the ADU versus the value added by the ADU. The ADU can add value that is more than $100k below the cost of the ADU addition. Before you proceed with the ADU addition, make sure you understand the value that will be added by the ADU addition.

Here is a list of reasons that adding an ADU can be one of the worse RE investments:

1) The value added by the ADU addition is often significantly less than the cost of adding the ADU. Search the BP for ADU appraisals to encounter numerous examples. This creates a negative initial position. This negative position can consume years of cash flow to recover. Make sure you know the value the ADU will add to the property before building the ADU.
2) The financing on an ADU is typically far worse than for initial investment property acq
uisition or is often not leveraged (HELOC, cash out refi, etc). Leverage magnifies return.
3) The effort involved in adding an ADU is comparable or larger than a rehab associated with a BRRRR. However if I do a BRRRR I can achieve infinite return by extracting all of my investment. Due to item 1, adding an ADU can require years to start achieving any return (once the accumulated cash flow recovers the initial negative position).
4) Adding an ADU is a slow process. It can take a year or more to complete an ADU. During this time you are not generating any return from the money invested in the ADU. This amounts to lost opportunity because if you had purchased RE, at the closing it can start producing return.
5) ADUs detract from the existing structure whether this is privacy, a garage, or just yard space.
6) this is related to the value added by the ADU, but there are many more buyers looking to purchase homes for their family than there are RE investors looking to purchase small unit count properties. This may affect value or time required to sell.
7) Adding an ADU does not make the property a duplex. For example in many jurisdictions I can STR units in a duplex but cannot STR an ADU (some jurisdictions will let you STR if you owner occupy). Duplex have different zoning that may permit additional units. Duplex can always add additional units via the ADU laws.
8) Related to the value added by the ADU, purchasing a property with an existing ADU is cheaper than buying a property and adding an ADU. Why add an ADU if it can be purchased cheaper?
9) if CA an ADU and JADU can be added to virtually all homes. However, Freddie/Fannie will not finance a parcel with 2 ADUs. This lowers refinance options. It can potentially limit your buyers when/if you go to sell.
10) JADUs require OO. Note this is not only to rent the JADU, but in strictest interpretation to even have a legal JADU. This limits purchasers to house hackers significantly limiting the potential buyer. JADU are value subtract as they typically reduce the value of the RE and often best option at selling is to remove the JADU.
11) if the ADU is being added to a SFH, the ADU can make the house rent controlled (if it is over 15 years old). See AB1482.

ADU laws were added to add housing. However building small unit count, small units is very expensive housing. It is resulting in increase to housing costs and poor returns for the hands off investor. Some jurisdiction recognize this and allow large number of ADUs which compounds the NIMBY against ADUs. For example in city of San Diego you can designate a few units as affordable units and build 15 units in a single family zoned area. No one wants 15 unit apartments built next door to their SFH.  However, more than 4 units will be appraised on income approach and these can be very profitable.

Good luck