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How to Make My ADU a Profitable Investment in Walnut?
Making an ADU a profitable investment in Walnut involves addressing challenges like high construction costs and maximizing rental income. To achieve success, it's essential to start by understanding local regulations and market demands. Walnut's favorable zoning laws can offer benefits, but managing expenses effectively is important for maximizing returns. Investors should focus on strategic marketing and high-quality construction to attract renters or buyers. This approach will provide insights into how to navigate local rules, manage costs, and make informed decisions to enhance the investment's financial performance.
Introduction to ADU Investments in Walnut
Why are ADUs popular in California?
As home prices rise and affordable housing becomes harder to find, ADUs offer a practical way for homeowners to maximize their property. These compact units are especially useful in areas where space for new homes is limited. They can provide living space for elderly family members or adult children, or be rented out for extra income.
How can an ADU increase property value?
Building an ADU adds valuable living space to a property, making it more appealing to potential buyers. Whether the extra space is used for renting, family living, or a home office, it increases the property's versatility. In California, homes with ADUs are highly sought after, often leading to higher property values.
Is it possible to sell an ADU in Walnut?
In California, there’s a law called AB 1033 that allows cities to set up rules letting an ADU be sold separately from the main house, similar to how condos are sold, as long as certain conditions are met. In Walnut, for example, selling an ADU on its own might be possible if specific conditions are in place, like when a nonprofit builds it, if there’s an agreement for shared ownership, or if the city approves the ADU and main house being owned separately.
The ROI for building an ADU in Walnut
We analyzed multiple projects, and we determined that on average you should expect a 37% ROI for an ADU project in Walnut. The ROI does not account for the property's acquisition cost. This ROI value is low and it signals a risky investment. Consequently, unless you have personal goals you want to achieve, we consider that an ADU project in Walnut is a risky investment. As a benchmark, a good investment for us is when the ROI is min. 50%+.
Interested to find out the market value of an ADU for your property?
Case study: 900 sq. ft. ADU built in Walnut
Scenario 1: Build to sell
ADU Building Area
The project involves constructing an ADU with a total area of 900 square feet. This ADU is large enough for a 2 bedroom, 1 bath unit. This scenario assumes that you already own this property and there is an existing primary residential unit on site.
Total Project Cost
Based on the industry reports, the construction cost per square foot is $381, resulting in total hard costs of $342,900. Soft costs encompass various expenses incurred during the planning, design, and permitting stages of the project. These include fees for professional services such as land surveying, structural engineering, architectural design, soil engineering, and permit fees. In this case, the soft costs amount to $51,493, covering essential aspects of the project's development and approval process.
The total project cost, including hard and soft costs, is $394,393. This estimate reflects the overall investment required to complete the construction project and obtain the necessary approvals.
Total Added Market Value
The sale price per square foot for a residential house in Walnut is estimated at $600. This represents the anticipated value of the completed building per unit area in the current real estate market.
Multiplying the market value per square foot by the building area yields the total added market value. In this case, the completed project is expected to add $540,000 to the property.
ROI (Return on Investment)
The ROI provides insight into the project's profitability by comparing the total added market value to the total project cost. In this analysis, the potential gross Profit without considering acquisition or financing costs amounts to $145,607 or 37% ROI. At this level, building an ADU to sell it provides a relatively low return compared to both the costs and the market value. In addition to the low return, you’ll have to consider the short capital gain tax, in case you want to sell it before 2 year's end.
Scenario 2: Build to rent
Potential Rental Income of an ADU
Constructing a 900-square-foot ADU in Walnut comes with a total cost of $394,393. Financing with a 6.5% interest rate loan results in a monthly payment of $2,493 or $29,916/year. Ideally, renting out the main house could cover this payment, while the ADU serves as a source of additional income. Renting out a 2 bedroom, 1 bath ADU long-term could generate approximately $30,000 per year. At this rental income, which gives you only $84 possible profit per year, you probably look at paying off the loan by simply renting the ADU.
City regulations require rentals to be at least 30 days long, meaning short-term rentals are not allowed. While platforms like Airbnb can bring in extra income during peak times (for example, $600 for a five-night stay), long-term rentals provide more reliable and steady income. With long-term rentals, you won’t have to constantly find new tenants, clean between guests, or re-list the property, resulting in more consistent earnings and less upkeep.
Check if the market value of your ADU covers the construction costs.
Is there financial assistance for building ADUs?
Yes, California offers the CalHFA ADU Grant Program, which can provide up to $40,000 to assist with the early costs of building an ADU. This funding can be used for tasks like creating blueprints, securing permits, performing soil tests, or carrying out surveys and energy evaluations before construction begins.
Building Your Team for the ADU Project
After securing the funds, confirm that your property is eligible for an ADU and check for any size restrictions. If you plan to rent out or use the ADU as an investment, it’s crucial to hire professionals such as architects and contractors. Working with experienced local experts can help streamline the project and ensure a smooth process.
What are some other financing options for building an ADU?
Using Your Home’s Value (HELOC)
A Home Equity Line of Credit lets you borrow money based on how much your home is worth, allowing you to take out funds as needed to cover costs along the way.
Refinancing Your Mortgage
By refinancing your mortgage to a higher amount, you can access additional money to help finance the building of an ADU.
Home Renovation Loans
These loans are designed for home improvements and can be used to cover the costs of constructing an ADU.
Home Equity Loan
This option provides a lump sum of money based on your home's value, which you pay back in fixed monthly installments.
Private Loans
Certain private lenders offer loans for ADU projects, often with more flexible terms than those offered by banks.
Potential Challenges and Solutions
Can an HOA prevent the construction of an ADU?
California laws, like AB 670 and AB 3182, protect homeowners from homeowners' associations (HOAs) that try to prevent or place unfair restrictions on ADU construction. If an HOA tries to stop your ADU project, it’s illegal and you can challenge their actions.
Maximizing Profitability in Walnut
Marketing Strategies to Increase ADU Investment Returns
To increase the return on your ADU, consider these strategies:
Be Active on Social Media
Share useful ADU-related posts to attract potential renters or buyers.
Collaborate with Local Realtors
Distribute promotional materials to connect with prospective buyers or long-term tenants.
Offer Virtual Tours
Give online tours to allow people to explore the ADU from their homes, making it easier for them to decide.
Get the ADU Analysis to attract buyers and close quickly. It's 10x cheaper.
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