Real Estate

How to Finance an ADU

By Tom Burchnell
finance an ADU

An accessory dwelling unit, or ADU, is a smaller, contained living space on the same lot as a detached single-family home. If you’re looking to extend living space to a relative or create an opportunity for rental income, you can convert part of the existing buildings or create a standalone structure. But how should you finance an ADU?

But before you start setting up a granny flat above the garage, you’ll need to decide on your ADU financing. There are many ADU financing options, from traditional equity-based financing to newer grant and loan choices. 

Which one is right for you? Let’s dive in.

10 Ways to Finance an ADU 

Unless you’re living off the land with your own stand of lumber, sawmill, a heck of a lot of DIY know-how—and a relative who runs a hardware store and owes you a big favor—planning ADUs or accessory dwelling units includes creating a budget and determining how to finance the project. 

There are many types of ADU loan options available today, particularly as states, counties, and planning agencies have begun looking at ADUs as a potential solution to housing shortages. 

1. Home Equity Line of Credit (HELOC)

Homeowners can leverage their current equity into a HELOC, which operates a bit like a credit card for a set period—except that it’s a secured loan with a lower interest rate. Wondering how to use HELOC for home improvement?

Borrowers have a window of time to draw up to a maximum before the repayment period begins. After which, they’ll repay only what they borrowed plus variable interest. 

2. Home Equity Loan or Second Mortgage

A home equity loan, or second mortgage, is another way to borrow against the equity you’ve built up in your property. Unlike a HELOC, a home equity loan is for a specific amount. However, the interest rate is fixed and usually slightly lower than that of a HELOC. 

3. Cash-Out Refinance

If you’re looking to leverage both your equity and today’s historically low-interest rates, a cash-out refinance for home improvements may be for you. This type of refinancing entirely replaces your current mortgage. Plus, you borrow against your home equity to receive a set amount of money back. This money can then be used to fund an ADU or for any other purpose. 

With a cash-out refinance, you have the opportunity to consider: 

  • A shorter repayment period for your remaining mortgage
  • Smaller monthly payments
  • A lower interest rate and less interest paid for the remainder of your mortgage
  • Cashback, generally up to 80% of your current home equity

4. Renovation Construction Loan

While refinancing is a common path to fund property upgrades, a renovation construction loan—or ADU construction loan—is designed specifically for this purpose. 

With home equity loans and refinancing, the lender doesn’t care how you spend your loan proceeds. However, when you get a renovation construction loan, banks are essentially partnering with you for the process. 

Rather than basing the loan on your current home equity, a renovation loan may be secured based on the anticipated increase in property value and home equity due to the upgrade. This means the bank has a vested interest in the renovation being fully and correctly completed. This may include: 

  • The bank reviewing and approving the general contractor 
  • Borrowed funds released in stages as construction is completed 
  • Hired inspectors reviewing and approving multiple stages of construction

Renovation loans are slightly higher than refinancing and home equity loans by about 0.125%, and they are a good financing solution for homeowners with less than 20% current equity.

5. Leverage Your Home Equity Directly

Leveraging your home equity generally means jumping through the same hoops as your initial mortgage, with a loan offer based on your credit score, debt-to-income ratio, and each lender’s hidden calculations, which determine what to charge you to cover the cost of their risk. 

6. FHA 203(k) Mortgage

The Federal Housing Administration offers the FHA 203(k) mortgage, which combines the money you need to make home improvements with a refinancing of your first mortgage to a new 30-year period. 

You’ll choose your contractors, but the renovation money will be in an escrow account to be used for the construction costs. 

Unlike a cash-out refinance, the loan maximum is based on the home’s future value (following the planned improvement) rather than your current home equity. This is a great opportunity for homeowners looking to finance an ADU. However, loan limits are set at a county level and tend to be low.

7. Government Grant and Loan Programs

If you’re planning an ADU intended as a rental unit, you may qualify for a government ADU program. Currently, these are available in: 

  • California (several state and local programs started in 2021)
  • Massachusetts
  • Oregon

Get in touch with your local housing authorities to see if there is any funding in your area related to ADUs as affordable housing. 

8. Peer-to-Peer Financing

Crowdsourcing is a new standard in financing, and peer-to-peer lending is an outgrowth of that concept. Platforms such as Point and PeerStreet are geared to real estate micro-investing, where individual lenders offer cash to cover costs in exchange for a slice of home equity or anticipated rental income.

9. Personal Loan or Line of Credit

When you borrow a personal loan, it can be secured based on other assets—such as investments or automobiles—but it’s generally at a higher rate than financing secured by home equity. 

Credit cards are also an option to help bridge financing an ADU, but again, beware of the interest rates. 

10. Retirement and Investment Account Loans

Many retirement accounts allow you to take out a loan against their balance, but you may end up paying significant fees and penalties based on borrowing or early withdrawals. While investments are monies you own (if they’re set up for long-term growth or retirement goals), tapping them early on can create more of a hole in your safety net than you want. 

Are ADUs a Good Investment?

There are many remodels that won’t yield a ton of return beyond your enjoyment, but adding an ADU to your property has two unique elements that lead to success: 

  • Immediate rental income potential 
  • Property value increase, both in liveable space and rental income potential.

On average, an ADU can increase a property’s value by $158,000. If you compare that to a garage conversion ADU costing between $100,000 – $150,000, property value alone will yield a profit.

A Simpler Way to Finance an ADU

Are you looking to improve your property with an extra unit? Whether it’s destined to be a mother-in-law suite or designed to provide additional rental income, an ADU can give you more flexibility and increase your property value.  

If you have enough built up, deciding how to finance an ADU will probably include using your home equity. Through a sale-leaseback program, homeowners can use the equity they already own and convert it into cash without the hurdles and traps of traditional financing. 

If you’re considering adding an ADU to your property, contact an expert to explore your options. 

Key Takeaways

If you’re planning to extend your living space, building an ADU may be a good option for you. Learning more about your ADU finance is the first step to this plan. If you are still unsure if building an ADU is right for you, after reading this article, consult a financial advisor to discuss your options.


  1. This Old House. Here’s How to Finance Your Remodel.
  2. Homestead. ADUs: The Best Investment You Can Make in 2022.
Tom Burchnell
Written by Tom Burchnell
Director of Product Marketing

This article is published for educational and informational purposes only. This article is not offered as advice and should not be relied on as such. This content is based on research and/or other relevant articles and contains trusted sources, but does not express the concerns of EasyKnock. Our goal at EasyKnock is to provide readers with up-to-date and objective resources on real estate and mortgage-related topics. Our content is written by experienced contributors in the finance and real-estate space and all articles undergo an in-depth review process. EasyKnock is not a debt collector, a collection agency, nor a credit counseling service company.