SFR + ADU vs buying a duplex or 2 units in CA

Hello All! So, you are thinking about buying a rental home? You are weighing your options and are debating; should I buy 2 units or should I buy a single family home and convert the garage into the second unit (legally)? 

This is specific to CA and we don't know if other states have similar ordinances. In many places they will call these, Granny Flats, but in the past in CA these Granny Flats did not allow people to put in a full kitchen in them. The new law permits CA residents to submit for permits with building and safety in every city to convert their garage to an ADU (accessory dwelling unit). People have the choice of converting an existing garage or building a new dwelling in the back yard (new construction). The new 2020 law has many new parameters to follow and it also allows single family zoned homes to add a second unit (ADU) and a third structure (JR ADU). Look up information on these online. 

The reason why a lot of home owners are converting the garage and not necessarily building a new construction ADU is simply because converting the garage is a lot cheaper than the new construction option. 

So, which one tends to be a better investment? ADU conversion or buying 2 units already built? 

(The answer will depend on your particular circumstances and how much time and money you have for something like this). 

Before you make a decision you will have to understand all potential costs associated with doing one or the other. This should be done prior to purchasing the home. I have heard of many stories where the buyers bought the home or have removed contingencies in escrow to purchase the home and then try to get the information about their specific home... That is way too late. 

The suggestion is for you to identify a city (market) and then a sub market where you want to buy? Then make sure you visit the applicable building and safety office to ask all necessary questions and do the appropriate due diligence. 

Together with your realtor, you should research potential rents a home can bring in for the type of property you want to buy as well as for a studio or 1 bedroom 1 bath unit (the ADU). 

Lets go over a quick example of properties I recently saw in Pasadena, CA 

One of the least expensive 2 unit property I saw as of yesterday April 1st 2020 was: 

Purchase price: $890k for 2 units with total sq footage of 1,736 sq ft. 

Front home was a 3 bedrooms 2 baths at around 1250 sq ft. 

vs 

A single family home in a comparable community was : 

Purchase price: $699k for a 3 bedroom 2 bath 1,250 sq ft. and where the garage is about 400 sq ft. (total sq feet for this property will be around 1,650 and why I am comparing these two properties). 

We will compare buying these two properties at a 5% down payment at 3.8% interest with a lender. 

The numbers: 

Cost to purchase + closing costs for the 2 units at 900k is: $55k 

Cost to purchase + closing cots for the SFR: is $45k 

The cost to convert the ADU + building plans + plus city fees is: around $75k (+ or - ) 

Total costs for the SFR + ADU conversion: $45k + $75k is : $120k 

As you can see, you do need more money to do the SFR + ADU: $120k compared to $55k for the 2 units. 

But after looking at the mortgage payment and rental revenue from both sides we conclude that : 

The 2 units will be losing over $440 per month from a cash flow perspective as the mortgage at 900k with 5% down payment is : $5,740 and the rents will only be: $5,300 

where the SFR + ADU will be generating about $612 per month as the mortgage for 700k with a 5% down payment will be $4,688 and the rents again will be around $5,300. 

(these 2 properties are not accounting for CAPX, management fees, utilities etc)

Forced Equity: 

The last portion for this is Value. Every city will be slightly different and these values will not help you refinance and do a BRRRR strategy as appraisals tend to come in low for converted ADUs. What we have seen for people that choose to sell their properties is that the SFR + ADU property is seen as more value to a potential buyer and for example the property above : Purchase price was $700k and put $75k into the home: You are at $775k and say you spend 50k for front home renovations: you would be at $825k : these properties are selling for about $950k to $1.1 (depending on location, aesthetics and renovations). Increasing the value by $75k to $200k. Where the 2 units remains at the value you bought it for. 

* Right now you do have to be careful as the corona virus may or may not affect your values. Make sure you consult with professionals when running your numbers on something like this. 

Professionals you will need for this? 

1. Realtor 

2. Contractor 

3. Architect / Drafter 

I am a realtor and do have a full team of professionals to help you with something like this! Every city will be different and it is extremely important to know timing for permits, fees, and what each city will allow you to do! 

Let m know if you have any questions and I can always recommend a good realtor anywhere in the US for Buying, Selling or Investing! 

[email protected]

Sebastian Marroquin 

DRE 01902804

Keller Williams realty 

Pasadena, CA