HELOC for ADU: The Smart Way to Finance Your Backyard Home

Building an accessory dwelling unit is one of the best investments you can make in your property. The problem? ADUs cost $150K-$250K. Where do you get that kind of cash?

Enter the HELOC — a financing tool that matches how ADU construction actually works.

Why HELOC Works Perfectly for ADU Projects

ADU construction doesn't happen all at once. You don't need $200K on day one.

Here's how ADU projects typically flow:

• Foundation and site prep: $30K-$50K
• Framing and structural: $40K-$60K
• Mechanical (plumbing, electrical, HVAC): $25K-$40K
• Finishes and fixtures: $30K-$50K
• Permits, inspections, contingency: $15K-$30K

A HELOC lets you draw funds as needed at each phase. You only pay interest on what you've actually drawn — not the full project cost sitting in escrow.

This phased draw approach can save thousands compared to taking out a lump-sum construction loan and paying interest on the full amount from day one.

The ADU Math That Makes This Work

Here's why a HELOC for an ADU isn't just financing — it's often self-liquidating debt:

ADU costs: $200,000 (typical mid-range)

Value added to home: $140K-$200K (20-35% increase)

Rental income potential: $1,500-$2,500/month

HELOC payment on $200K at 7.44%: ~$1,240/month (interest-only)

In many markets, rental income from your ADU exceeds the HELOC payment. You've created an asset that pays for itself while building equity.

HELOC vs ADU Construction Loan

Construction loans are the traditional ADU financing option. But they're more complicated and often more expensive.

When Construction Loan Makes Sense

• You don't have enough equity for a HELOC large enough
• You're building a complex custom ADU requiring lender oversight
• You want a fixed rate locked in for the construction period

When HELOC Makes Sense (Most Cases)

• You have sufficient equity (80-85% LTV still met after draws)
• You want flexibility and lower costs
• You're working with a builder you trust
• You might use remaining credit for other purposes

How Much HELOC Do You Need for an ADU?

Size your HELOC based on your ADU type:

Garage conversion: $50K-$100K

• Least expensive option
• Existing structure reduces costs
• May have lower ceiling, limited natural light

Detached ADU (small, <500 sq ft): $100K-$150K

• Studio or one-bedroom
• New construction but compact footprint
• Most popular for rental income

Detached ADU (larger, 500-1,200 sq ft): $150K-$300K

• Full one or two-bedroom unit
• Premium rental income potential
• Highest value add to property

Pro tip: Add 15-20% contingency to your estimate. ADU projects, like all construction, tend to run over budget. Better to have credit available than to stall mid-project.

The Tax Angle

HELOC interest may be tax-deductible when used for home improvement — and building an ADU counts.

Under current tax law, interest on home equity debt is deductible if the funds are used to "buy, build, or substantially improve" your home. An ADU checks the "build/improve" box.

Keep detailed records:

• Construction invoices and receipts
• Draw dates and amounts from HELOC
• Proof funds went directly to ADU costs

Consult a tax professional, but this potential deduction can offset some of your interest costs.

State-Specific ADU Incentives

Several states are encouraging ADU construction with special programs:

California:

• Streamlined permitting (SB 9)
• Some cities offer pre-approved ADU plans
• Los Angeles waives fees for affordable ADUs
• CalHFA ADU grant program ($40K for qualifying homeowners)

Oregon:

• Portland allows ADUs in all residential zones
• Waived system development charges in some areas
• Density bonuses for ADU construction

Washington:

• Seattle allows ADUs in single-family zones
• Reduced parking requirements
• Fast-track permitting for pre-approved designs

Check your local programs — ADU incentives are expanding rapidly as cities address housing shortages.

Qualifying for a HELOC When Planning an ADU

Lenders look at your current home value, not the projected post-ADU value. This means:

Before ADU construction:

• Home value: $800,000
• Current mortgage: $400,000
• Available equity (80% LTV): $240,000

You can get up to $240K HELOC based on today's value. Once the ADU is complete, your home value increases — but that doesn't help with the initial HELOC sizing.

Planning tip: If you're borderline on having enough equity, consider:

• Paying down your mortgage first to increase available equity
• Starting with a smaller ADU scope
• Using savings to supplement HELOC funds
• Waiting for home values to appreciate further

The Smart ADU Financing Strategy

1. Get your HELOC approved BEFORE you start — Don't wait until construction begins
2. Lock in your credit line — Rates can rise during your 6-12 month build
3. Draw only what you need, when you need it — Save on interest during early phases
4. Keep reserves available — ADUs always have surprises
5. Track rental market rates — Know what income you can expect
6. Consider house hacking — Rent the ADU and use income to accelerate HELOC payoff

The Bottom Line

A HELOC is often the smartest way to finance an ADU because:

• Flexibility matches construction phases — Draw as you build
• Lower costs — Skip construction loan conversion fees
• Potentially tax-deductible — When used for home improvement
• Self-liquidating — Rental income often exceeds payments
• Ongoing utility — Use remaining credit for other needs

ADUs aren't just housing — they're wealth-building machines. The right financing makes the math work even better.

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Ready to Build Your ADU?

HonestCasa's digital HELOC gets you approved fast so you can break ground sooner. Check your equity, get your rate, and start building your backyard income property.

[See What You Qualify For →]

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FAQs

How much does it cost to build an ADU?

Expect $100K-$300K depending on size, type (garage conversion vs. new construction), and your local market. California coastal cities trend higher; Midwest markets trend lower.

Can I use a HELOC to build an ADU?

Yes. A HELOC is often the preferred financing method because you can draw funds in phases as construction progresses, paying interest only on what you've used.

Will an ADU increase my home value?

Typically yes — by 20-35% of your home's current value. A $200K ADU might add $150K-$200K in appraised value, plus generate ongoing rental income.

What's the difference between ADU construction loan and HELOC?

Construction loans have lender-controlled draws and convert to permanent financing (extra closing costs). HELOCs are simpler: you control draws, no conversion needed, and you keep the credit line for future use.