Interesting situation that I am analyzing and could use some ad(vice), questions, discussions to help me flush out the nuances of the two options. 

My wife and I purchased a house 4 bed/ 1 bath (built in 1937 @ 1500sqft) from my father for $220,000 which appraised at sale for $374,000 two years ago in very rough shape, it has probably increased another $25,000 in value since then as the market here has been off the hook and I believe overvalued. We have a current HELOC for repairs at $30,000, but need probably another $30,000 for bringing the original structure to "finished" standards. This is our primary residence.

If the value of the property is conservatively $380,000 and we have $55,000+$220,000 = $275,000 - giving us about $105,000 in equity to keep the 80/20 we can pull appx $30,000 for buying another property. Given a traditional 80/20 loan (no house hacking as we cant move yet, I could place my mom in it perhaps) we could get a $150,000 house in the area may be tough but with diligence we could do it. (Our position here may be a little understated but I would rather be conservative) 

We currently pay about $1,500 for our mortgage payment including the $30k in HELOC and the FHA PMI. Removing both of those due to a refinance would bring us down to about $1,400 a month for the $275,000 value at 4.5%. That would be for us to stay in the house and finish it out.

The other option is to build an addition with an ADU (accessory dwelling unit) finishing the house and adding another 650 sqft to the main house ( 3 bed 2 bath ) and a 550 sqft attached ADU (1 bed 1 bath). we could rent the ADU for appx $1000, to $1200 a month. I am a PM for a local contractor and get my construction work at cost as well as some personal sweat equity for a build out of $150,000 in costs.

Doing a quick comparison of values for the now 2100 sqft and 550 sqft dwellings that value is around $625,000 in the 1 mile radius of for sale and sold properties on Zillow. I will be getting a friend (local appraiser) to give me a confirmation number on my value assumption. 

A refinance of our $220k + 30k +150k gives us a loan of $400k for which I have already been prequalified for. Our payment would be $2,191 at 4.5% if we could get $1000 for the rent of the ADU it would drop our personal monthly payment amount by $200 all of which would be reserved for upkeep on the property and vacancy. As it is an attached ADU I imagine that the tenant will be less likely to destroy the property.

If the value of the property is $625,000 and we owe $400,000 we could leverage $75,000 for future purchases keeping the 80/20. 

I am worried about being over leveraged on the property but as long as we keep the ADU rented we should be ok, and ARB is possible as Bend is a very touristy destination.

We would like to move in a year or two when our last daughter gets out of school and rent both portions of the house or sell outright.

This is our first deal and to be honest I am pretty darn nervous and so is my wife about these numbers as they are very big for us. We lost our first house in the crash and want to make better financial decisions this time around, This is a big opportunity for us and playing things right could really change our lives and the lives of others. 

Any questions, comments, discussions that you have regarding this or similar deals would be great to hear about.