Introduction to ADU Investments in West Covina

Why are ADUs popular in California?

As housing costs soar and affordable options dwindle, ADUs present an effective way for homeowners to optimize their properties. These compact units are particularly beneficial in places where new construction isn’t feasible. They offer flexible living arrangements for elderly relatives or adult children and can also provide additional income by being rented out.

How can an ADU increase property value?

Adding an ADU increases the functional space of a property, making it more attractive to buyers. Whether the space is rented out, used for family, or transformed into a workspace, it offers more flexibility to the property. In California, homes featuring ADUs are highly desirable and often see an increase in value.

Is it possible to sell an ADU in West Covina?

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 West Covina, 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 West Covina

We analyzed multiple projects, and we determined that on average you should expect a 15% ROI for an ADU project in West Covina. 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 West Covina is a risky investment. As a benchmark, a good investment for us is when the ROI is min. 50%+.

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Case study: 900 sq. ft. ADU built in West Covina

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 $47,576, covering essential aspects of the project's development and approval process.

The total project cost, including hard and soft costs, is $390,476. 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 West Covina is estimated at $500. 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 $450,000 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 $59,524 or 15% 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 West Covina comes with a total cost of $390,476. Financing with a 6.5% interest rate loan results in a monthly payment of $2,468 or $29,616/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 $34,800 per year. At this rental income, which gives you only $5,000 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.

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Is there financial assistance for building ADUs?

Yes, California provides financial help through the CalHFA ADU Grant Program, offering up to $40,000 to cover early expenses when building an ADU. The grant can be applied to essential steps like drafting designs, obtaining permits, conducting soil tests, or completing surveys and energy reviews before starting construction.

Building Your Team for the ADU Project

Once funding is secured, verify that your property meets the requirements for adding an ADU and check for any limits on its size. For those planning to rent or use the unit as an investment, hiring skilled professionals such as architects and contractors is important. Choosing reliable local experts can simplify the process and keep the project on track.

What are some other financing options for building an ADU?

Using Home Equity (HELOC)
A Home Equity Line of Credit allows you to borrow against the value of your home, giving you the flexibility to access funds as needed to manage ongoing expenses.

Mortgage Refinancing
You can refinance your mortgage for a larger amount, using the extra money to help pay for the construction of an ADU.

Home Improvement Loans
These loans are specifically created to fund home renovation projects, making them a suitable option for financing an ADU.

Home Equity Loan
This loan provides a lump sum of cash based on your home’s value, which you repay through consistent monthly payments.

Private Loans
Some private lenders specialize in financing ADU construction, often offering more adaptable repayment terms compared to traditional banks.

Potential Challenges and Solutions

Can an HOA prevent the construction of an ADU?

California laws such as AB 670 and AB 3182 ensure that homeowners' associations cannot block or impose unfair restrictions on ADU projects. If an HOA attempts to interfere with your plans, their actions are against the law and can be contested.

Maximizing Profitability in West Covina

Marketing Strategies to Increase ADU Investment Returns

To increase the return on your ADU, consider these strategies:

Leverage Social Media
Post engaging content about your ADU to reach potential renters or buyers.

Work with Local Real Estate Professionals
Use their networks and resources to attract buyers or tenants.

Provide Virtual Tours
Allow prospective renters or buyers to explore the unit online, making it easier for them to make a decision.

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