Los Angeles ADU valuations explained

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Los Angeles ADU valuations explained

Jonathan Taylor
Lender · Los Angeles, CA · Member since 2017 · 916 posts · 647 votes

Good Afternoon Local LA BP folks,

I know this has been a hot topic among the local LA investors and as a mortgage broker I was very curious on how ADUs are actually valued as I keep hearing different sides to this. I spent a good amount of hours talking to local LA residential appraisers to get an idea. Bottom line is, ADUs are NOT valued the same as an additional unit nor is the rental income considered in their valuations. The best example I found was if you have an SFR with a pool and an SFR without a pool. The SFR with a pool is given maybe 20k-30k more in value. Same concept for ADUs. Its a value add line item and assigned values ranging from 20-50k. Now the appraisers I spoke to did not speak in absolutes as they would constantly say 'probably around' and 'depends on the comps of recently sold in the area' to justify the property values assigned to ADUs.

Let me know your thoughts but this seems to stick as I spoke to 5 local LA  residential appraisers, all consistently reiterating the above comments. To be clear, this is info about Los Angeles county ADUs only, I did not speak to any appraiser outside of this county. 

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Will BarnardPro Member
Moderator
Developer · Santa Clarita, CA · Member since 2008 · 15k+ posts · 10k+ votes
6y

The purpose/intent of garage conversions to ADU or stand alone new construction ADU units is to hold and generate either a new income stream from your residential single family property or create a new living space for a family member/friend, etc. It should not be intended to use as value for a flip, rather a long term strategy to build and hold. 5-10 years from now, when your rent pays for the construction and more and more properties with ADU's are sold, there will be more comps and likely given a bit more in valuations as time progresses.

For today, expect to build them to hold for long term and generate higher cash on cash returns than buying a new property. You already own the dirt so all you have is the construction/design/utility connection costs with ADU's. That is what makes them attractive, at least here in Los Angeles with the high rental rates.

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  • Dennis Maynard
    Real Estate Broker · Los Angeles, CA · Member since 2018 · 300 posts · 146 votes
    6y

    I spoke with the MLS today regarding separating ADU's from duplexes as they are not the same thing as well. ADU's may very well have different returns / cost analysis than multifamily units. I would be curious to hear more as well. While ADUs provide additional income to home owners, they are not the same as multifamily properties. Agreed.

    2Reply
  • Jonathan Taylor
    OP
    Lender · Los Angeles, CA · Member since 2017 · 916 posts · 647 votes
    6y

    @Dennis Maynard yes, to cover your point ADUs are beneficial for homeowners who want to use their space for extra income but when used solely as a flip and value add strategy is where the complications lie. 

    0Reply
  • Matthew Forrest
    Rental Property Investor · Torrance, CA · Member since 2016 · 263 posts · 132 votes
    6y

    @Jonathan Taylor I have had my property appraised twice post ADU (not garage conversion) and the appraisals came in $40,000 apart so the value of the ADU is definitely subjective based on the appraiser that you get. One appraiser compared my property + ADU to a local property + garage workshop. I received $20,000 in valve for the ADU on that appraisal. The second appraiser decided that he couldn't find any good comps, but used his judgement to give valve to the ADU, which resulted in the higher appraisal.

    I don't think that ADUs should be valued based on income or square footage, but I believe that ADUs definitely have more valve than they're getting right now. Personally, I haven't seen and SFHs with ADUs sell in my area so I would be interested to see one of those come though. In the long run, the value will be based on comps (assuming we build enough of them) and values will be closer to duplexes minus the financing benefits of duplexes counting the rent as income.

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  • Jonathan Taylor
    OP
    Lender · Los Angeles, CA · Member since 2017 · 916 posts · 647 votes
    6y

    @Matthew Forrest Very interesting in the differences of your appraisals and as Im learning more and more about this, it comes down to whatever the appraiser thinks is accurate. I would argue though that as we build more and more ADUs in LA, I doubt an SFR with an ADU and a duplex will be comped out the same due to zoning of the lot. This was a consistency I heard from all the appraisers I spoke to. The ADU will not be the same as an equal unit, at least for now....

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  • Dennis Maynard
    Real Estate Broker · Los Angeles, CA · Member since 2018 · 300 posts · 146 votes
    6y

    @Matthew Forrest 

    @Jonathan Taylor I also don't think ADU's will have the same value as a duplex. Especially when concerns such as parking and street access come into play. Furthermore, I seem to remember, someone verify, that in cities such as LA that rent control comes into play on older homes that add an ADU.

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  • Matthew Forrest
    Rental Property Investor · Torrance, CA · Member since 2016 · 263 posts · 132 votes
    6y

    @Dennis Maynard @Jonathan Taylor

    To clarify what I meant by "values will be closer to duplexes minus the financing benefits of duplexes counting the rent as income," I think a SFH with an ADU with be the same from an income perspective to an investor with a duplex (two units only) or someone who wants to house hack and be able to afford more house. Put more simply, right now SFH + ADU is valued more closely to a SFH than to a duplex, but I think it'll move towards the duplex valuation.

    1Reply
  • Dennis Maynard
    Real Estate Broker · Los Angeles, CA · Member since 2018 · 300 posts · 146 votes
    6y
    Originally posted by @Matthew Forrest:

    @Dennis Maynard @Jonathan Taylor

    To clarify what I meant by "values will be closer to duplexes minus the financing benefits of duplexes counting the rent as income," I think a SFH with an ADU with be the same from an income perspective to an investor with a duplex (two units only) or someone who wants to house hack and be able to afford more house. Put more simply, right now SFH + ADU is valued more closely to a SFH than to a duplex, but I think it'll move towards the duplex valuation.

    I'm not there. Agreed on the income, but the long term pricing on all rental property is subject to the strength of the market. So if the rental market is weak like it is right now, then the "added value" of the ADU will stay in question. True duplexes will be based on income value. SFR / ADU will likely stay in SFR with a little bonus income. If a renter is faced with the opportunity for a unit in either (all other things being equal - ceteris peribus), they will likely choose the duplex rather than live in someones garage.

    0Reply
  • Matthew Forrest
    Rental Property Investor · Torrance, CA · Member since 2016 · 263 posts · 132 votes
    6y
    Originally posted by @Dennis Maynard:
    Originally posted by @Matthew Forrest:

    @Dennis Maynard @Jonathan Taylor

    To clarify what I meant by "values will be closer to duplexes minus the financing benefits of duplexes counting the rent as income," I think a SFH with an ADU with be the same from an income perspective to an investor with a duplex (two units only) or someone who wants to house hack and be able to afford more house. Put more simply, right now SFH + ADU is valued more closely to a SFH than to a duplex, but I think it'll move towards the duplex valuation.

    I'm not there. Agreed on the income, but the long term pricing on all rental property is subject to the strength of the market. So if the rental market is weak like it is right now, then the "added value" of the ADU will stay in question. True duplexes will be based on income value. SFR / ADU will likely stay in SFR with a little bonus income. If a renter is faced with the opportunity for a unit in either (all other things being equal - ceteris peribus), they will likely choose the duplex rather than live in someones garage.

    I'm not a fan of the garage ADUs, ADUs with awkward access, or ADUs with inadequate parking situations, but I'll take a stand alone ADU over a duplex with no room to build at todays valuations all day long. Sign me up!

    0Reply
  • Dennis Maynard
    Real Estate Broker · Los Angeles, CA · Member since 2018 · 300 posts · 146 votes
    6y
    Market UpdateOriginally posted by @Matthew Forrest:
    Originally posted by @Dennis Maynard:
    Originally posted by @Matthew Forrest:

    @Dennis Maynard @Jonathan Taylor

    To clarify what I meant by "values will be closer to duplexes minus the financing benefits of duplexes counting the rent as income," I think a SFH with an ADU with be the same from an income perspective to an investor with a duplex (two units only) or someone who wants to house hack and be able to afford more house. Put more simply, right now SFH + ADU is valued more closely to a SFH than to a duplex, but I think it'll move towards the duplex valuation.

    I'm not there. Agreed on the income, but the long term pricing on all rental property is subject to the strength of the market. So if the rental market is weak like it is right now, then the "added value" of the ADU will stay in question. True duplexes will be based on income value. SFR / ADU will likely stay in SFR with a little bonus income. If a renter is faced with the opportunity for a unit in either (all other things being equal - ceteris peribus), they will likely choose the duplex rather than live in someones garage.

    I'm not a fan of the garage ADUs, ADUs with awkward access, or ADUs with inadequate parking situations, but I'll take a stand alone ADU over a duplex with no room to build at todays valuations all day long. Sign me up!

     You may like this.

    Market Update

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  • Will BarnardPro Member
    Moderator
    Developer · Santa Clarita, CA · Member since 2008 · 15k+ posts · 10k+ votes
    6y

    The purpose/intent of garage conversions to ADU or stand alone new construction ADU units is to hold and generate either a new income stream from your residential single family property or create a new living space for a family member/friend, etc. It should not be intended to use as value for a flip, rather a long term strategy to build and hold. 5-10 years from now, when your rent pays for the construction and more and more properties with ADU's are sold, there will be more comps and likely given a bit more in valuations as time progresses.

    For today, expect to build them to hold for long term and generate higher cash on cash returns than buying a new property. You already own the dirt so all you have is the construction/design/utility connection costs with ADU's. That is what makes them attractive, at least here in Los Angeles with the high rental rates.

    Podcast Guest on Show #130
    3Reply
  • Matthew Forrest
    Rental Property Investor · Torrance, CA · Member since 2016 · 263 posts · 132 votes
    6y

    @Dennis Maynard Was that a link for the market update? I could't click on it.

    0Reply
  • Rick Albert
    Real Estate Agent · Los Angeles, CA · Member since 2018 · 2k+ posts · 1k+ votes
    6y

    Hey Jonathan,

    I've been involved in a few ADU properties (including my own) and you are right, the lending world isn't quite caught up. Generally, I'm seeing values in the range of $50,000 in the San Fernando Valley and about $75,000 for the Westside. However, it can cost a minimum of $100,000 to do it right.

    It's been a struggle with lenders and I'm seeing less and less flippers/investors build out ADUs for resale because of it. This is keeping ADU properties scarce unless it is for personal investment (like myself). It's too bad, I have a few clients looking for properties with ADUs.

    Happy to answer any questions from an agent's perspective.  I've represented clients buying, selling, and developing ADUs.

    Best,

    Rick

    0Reply
  • Dennis Maynard
    Real Estate Broker · Los Angeles, CA · Member since 2018 · 300 posts · 146 votes
    6y
    Originally posted by @Matthew Forrest:

    @Dennis Maynard Was that a link for the market update? I could't click on it.

    For some reason not working.  Search YouTube for my name and it should be the first video. 

    0Reply
  • Rick Albert
    Real Estate Agent · Los Angeles, CA · Member since 2018 · 2k+ posts · 1k+ votes
    6y

    I agree with @Will Barnard.  A developer I work with has flipped three homes with ADUs but some either took a while to sell or had appraisal issues.  It's why (at least from what I'm seeing), there are less flips happening with ADUs.  It's quite a disappointment considering the value it can bring to such an expensive market.

    0Reply
  • Dan H.Pro Member
    Investor · Poway, CA · Member since 2015 · 7k+ posts · 8k+ votes
    6y
    Originally posted by @Dennis Maynard:
    Originally posted by @Matthew Forrest:

    @Dennis Maynard @Jonathan Taylor

    To clarify what I meant by "values will be closer to duplexes minus the financing benefits of duplexes counting the rent as income," I think a SFH with an ADU with be the same from an income perspective to an investor with a duplex (two units only) or someone who wants to house hack and be able to afford more house. Put more simply, right now SFH + ADU is valued more closely to a SFH than to a duplex, but I think it'll move towards the duplex valuation.

    I'm not there. Agreed on the income, but the long term pricing on all rental property is subject to the strength of the market. So if the rental market is weak like it is right now, then the "added value" of the ADU will stay in question. True duplexes will be based on income value. SFR / ADU will likely stay in SFR with a little bonus income. If a renter is faced with the opportunity for a unit in either (all other things being equal - ceteris peribus), they will likely choose the duplex rather than live in someones garage.

     A duplex, or any less than 5 unit property, is appraised on comps, not income.   The appraisals often include an income approach, but this is informative only and the value is not based on the income. 

    0Reply
  • Dennis Maynard
    Real Estate Broker · Los Angeles, CA · Member since 2018 · 300 posts · 146 votes
    6y
    Originally posted by @Dan H.:
    Originally posted by @Dennis Maynard:
    Originally posted by @Matthew Forrest:

    @Dennis Maynard @Jonathan Taylor

    To clarify what I meant by "values will be closer to duplexes minus the financing benefits of duplexes counting the rent as income," I think a SFH with an ADU with be the same from an income perspective to an investor with a duplex (two units only) or someone who wants to house hack and be able to afford more house. Put more simply, right now SFH + ADU is valued more closely to a SFH than to a duplex, but I think it'll move towards the duplex valuation.

    I'm not there. Agreed on the income, but the long term pricing on all rental property is subject to the strength of the market. So if the rental market is weak like it is right now, then the "added value" of the ADU will stay in question. True duplexes will be based on income value. SFR / ADU will likely stay in SFR with a little bonus income. If a renter is faced with the opportunity for a unit in either (all other things being equal - ceteris peribus), they will likely choose the duplex rather than live in someones garage.

     A duplex, or any less than 5 unit property, is appraised on comps, not income.   The appraisals often include an income approach, but this is informative only and the value is not based on the income. 

    Yes I am aware it is based on comps. But you are allowed to include income as part of the financing of the property. So when you have income adjust, values adjust. You cannot do that with SFR loans and ADU's. Furthermore, investors look at income to create value for a property. What an investor is willing to pay for that income or benefit creates the comparable sale. So in essence, it is based on income.

    0Reply
  • Jonathan Taylor
    OP
    Lender · Los Angeles, CA · Member since 2017 · 916 posts · 647 votes
    6y

    @Dennis Maynard

    If you are in rent control the ADU falls under it because you need to acquire a certificate of occupancy and register the unit with the RSO. there's no escaping rent control ...

    1Reply
  • Jonathan Taylor
    OP
    Lender · Los Angeles, CA · Member since 2017 · 916 posts · 647 votes
    6y

    @Matthew Forrest

    I see your logic but a SFH with an ADU is zoned as a SFH and will only be slightly valued higher than a SFH without one. Income isn't taken into account. The laws and opinions may change but as of now that's how it is

    0Reply
  • Jonathan Taylor
    OP
    Lender · Los Angeles, CA · Member since 2017 · 916 posts · 647 votes
    6y

    @Dennis Maynard

    I see your logic but lenders for full document owner occupied properties in CA use tax returns employment history and Income to qualify the borrower and assess ability to repay. The income of the property can be used following certain criteria and can help offset the DTI. But this is 75% of collected rents and ADU income cannot be used. So the income is included but by no means is the value nor the approval of the loan based upon it.

    0Reply
  • Dennis Maynard
    Real Estate Broker · Los Angeles, CA · Member since 2018 · 300 posts · 146 votes
    6y
    Originally posted by @Jonathan Taylor:

    @Dennis Maynard

    I see your logic but lenders for full document owner occupied properties in CA use tax returns employment history and Income to qualify the borrower and assess ability to repay. The income of the property can be used following certain criteria and can help offset the DTI. But this is 75% of collected rents and ADU income cannot be used. So the income is included but by no means is the value nor the approval of the loan based upon it.

    Right, so without being able to use the income on the loan, you don't get the full bump on loan valuation which allows for a higher loan. This means buyers have to come out of pocket more to purchase the income production, which defeats the purpose because it reduces returns. Therefore, investors will not pay more for a house with an ADU vs an income property if all other things are equal.

    0Reply
  • Aaron Norris
    Lender · California and Florida · Member since 2008 · 319 posts · 194 votes
    6y

    @Jonathan Taylor - we've been funding ADUs as part of flips so I have some experience on this. Most ADUs are being held so comps continue to be a challenge. If there are enough duplexes close by, some will consider it as a comp. Most of the time in flips I've seen, the appraiser is creating an average cost per square foot which is not ideal since you're cramming the most expensive rooms into a small footprint. I think it will continue to get easier with more comparable sales but financing and appraisals continue to be a challenge. With Covid-19, I suspect lenders will only be more conservative. 

    0Reply
  • Jonathan Taylor
    OP
    Lender · Los Angeles, CA · Member since 2017 · 916 posts · 647 votes
    6y

    @Dennis Maynard I agree with you but also, and we all are local here so we have seen this, some buyers just see the perceived value of an ADU and will over pay for them. This isn't a good strategy and makes us knowledgable folks nodding our heads but is a fact of the open market.

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  • Jonathan Taylor
    OP
    Lender · Los Angeles, CA · Member since 2017 · 916 posts · 647 votes
    6y

    @Aaron Norris as I spoke to the appraisers, no one claimed these guidelines for ADU valuations were set in stone. Most would say 'probably, most likely, etc' because yes, if the market increases the amount of ADUs then there are more comps, then the values in certain neighborhoods with these comps would give a good idea of what value ADUs add. But this is probably a few years off and as of right now, basing an investment strategy on value add ADUs isn't the best right now.

    Glad your comps came out alright. Lets only hope it gets better.

    1Reply
  • Dennis Maynard
    Real Estate Broker · Los Angeles, CA · Member since 2018 · 300 posts · 146 votes
    6y
    Originally posted by @Jonathan Taylor:

    @Dennis Maynard I agree with you but also, and we all are local here so we have seen this, some buyers just see the perceived value of an ADU and will over pay for them. This isn't a good strategy and makes us knowledgable folks nodding our heads but is a fact of the open market.

    True, but for how much longer. As I have mentioned in some of my other posts, there or over 33,000 listings on apartments.com right now. If an ADU is going to compete with an apartment, it is only a matter of time before rents fall and the values of the ADU's fall as well. Time will tell, the market is the ultimate determinant.

    1Reply
  • Eric McGilloway
    Member since 2020 · 6 posts · 0 votes
    6y

    @Jonathan Taylor @Dennis Maynard

    What if you have a corner lot, and build a $150k 2br, 1.5ba ADU in the backyard, get its own address and parking spot, and it becomes its own property. So now you have two separated properties. You can rent out the "ADU" for $2500-$3000/mo. Would this be a profitable venture? I ran the numbers on the rental calculator. Seems profitable from the numbers.

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