How Public and Private Incentives Can Strengthen the ADU Market

Private Incentives

Progressive ADU housing policy at the state and local level has created favorable conditions that encourage the proliferation of private businesses that focus solely on ADU design and construction. Interest in ADUs is rising in places like Portland, San Jose and Los Angeles because homeowners have fewer regulatory and financial barriers preventing them from building an ADU on their property. There’s suddenly a demand for streamlined, modular ADU design and construction services, and the private sector has taken notice.

“Generally, both at the state level and the local municipality level, there’s been a lot of progress on ADUs towards removing barriers to allow homeowners to get a project done,” said John Geary, founder of Abodu – a private ADU developer based in the Bay Area. “I think the new legislation has empowered homeowners and we’re excited to be here to help homeowners achieve their dreams.”

Geary founded Abodu because the traditional design-build process available to homeowners didn’t scale down well for a 500 square foot unit. Working with an architect, obtaining permits, and hiring a large contractor was expensive, challenging, and lengthy. According to Geary, projects would often take 18 months to two years and project costs would balloon to $400,000. I imagined someone cutting bread with a chainsaw – sure it cuts the bread but not in a way that’s useful to anyone.

Abodu was created to streamline the ADU development process. Geary’s strategy is straightforward: 1) provide transparent but flexible pricing upfront; 2) set an expedited timeline; and 3) create thoughtful and replicable unit designs. Similar ADU developers are now beginning to crop up in other west coast markets. A strong private market like this will help scale up ADU housing by bringing down cost and shortening the construction timeline. It’s the yeast that makes the bread rise. Sorry for the second bread metaphor.

Share of Rent

Some developers have created a unique financial model that enlarges the number of potential buyers-, or homeowners, by providing a zero-down purchase option. The developer recovers their costs by receiving a share of the rent over an agreed-upon amount of time. Such an agreement allows homeowners with no significant cash on hand to build an ADU on their property. Basically, anyone with the space can house an ADU.  

Abodu’s “zero-down” financing option is offered via financial partners, who retain fractional ownership of the unit until costs have been recouped. ADU Builder, based in Palo Alto, retains 0 to 70% of the total monthly rent, depending on the size of the down payment, for up to 25 years. Portland-based Dweller operates a slightly different business model but the effect for the homeowner is essentially the same. Dweller finances, builds, and eventually manages the ADU on leased grounds. The homeowner can receive lease payments until they decide they want to buy out the lease.

Of course, this model only works in a high demand, dense market. Anything higher than a 10% vacancy rate could elongate the amount of time it takes to make the project profitable for the developer. Additionally, there’s nothing requiring that the unit rents remain affordable. Geary believes that this isn’t an issue because ADUs drive down housing costs by growing supply at a cheaper price than large-scale development. They undercut the competition. A new unit of multi-family mid-rise construction in the Bay Area costs anywhere from $600,000 to $750,000 per door, while ADUs cost $150,000 to $200,000 per door. “When you think about the economics behind it, the break-even rent is naturally three times higher than what a homeowner’s break-even rent is with an ADU,” said Geary. “It naturally has more downward pressure on what rents can be charged to tenants.”

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