Using a HELOC to Build an ADU: Complete Guide

Accessory Dwelling Units (ADUs)—backyard cottages, garage conversions, granny flats—have exploded in popularity as housing costs soar and multigenerational living becomes more common. But building an ADU typically costs $150,000 to $400,000, and most homeowners don't have that kind of cash sitting around.

A HELOC is one of the most flexible ways to finance ADU construction. You draw funds as you need them during the build, only pay interest on what you use, and avoid the rigid requirements of construction loans. But HELOCs come with variable rates and require substantial equity in your primary home.

Here's everything you need to know about using a HELOC to build an ADU, including real costs, how to avoid budget overruns, and when other financing options make more sense.

Why ADUs Are Worth Considering

Before diving into financing, let's talk about why ADUs make financial sense for many homeowners.

Rental Income

A well-located ADU can generate $1,500 to $3,500+ per month depending on your market. In high-cost areas like the Bay Area or Seattle, monthly rents of $2,500+ are common for a 600-800 sq ft unit.

Multigenerational Living

Housing aging parents or adult children while maintaining privacy. This can save thousands in assisted living costs or help family members build savings.

Increased Property Value

Studies show ADUs increase property value by 20-30% on average, though this varies by market. A $200,000 ADU might add $150,000-$250,000 to your home's appraised value.

Future Flexibility

Even if you don't need the space now, an ADU provides options: rental income during retirement, a home office, or a place for caregivers.

What ADU Construction Actually Costs

National averages are meaningless—ADU costs vary wildly by location, size, and finish level. Here's what to expect:

Detached New Construction ADU

Size: 600-800 sq ft
Cost range: $200,000 - $400,000 ($250-$500/sq ft)

Budget breakdown (typical 700 sq ft ADU at $300/sq ft = $210,000):

• Permits and design: $15,000-$30,000 (7-14% of total)
• Site prep and foundation: $25,000-$40,000
• Structure and framing: $50,000-$70,000
• Electrical and plumbing: $30,000-$45,000
• Interior finishes: $40,000-$60,000
• Exterior and landscaping: $15,000-$25,000
• Contingency (10%): $20,000

High-cost markets (CA, WA, NY): Add 30-50% to these numbers.
Lower-cost markets (TX, FL, AZ): Subtract 20-30%.

Garage Conversion

Size: 400-600 sq ft
Cost range: $100,000 - $200,000

Cheaper because foundation and structure exist, but you'll still need:

• Full electrical and plumbing
• Insulation and drywall
• HVAC system
• Windows and entrance
• Permits (yes, even for conversions)

Prefab/Modular ADU

Size: 400-800 sq ft
Cost range: $150,000 - $300,000

Faster construction (weeks vs. months) but still requires:

• Site prep and utilities
• Foundation
• Permits and crane delivery
• Final connections and finishes

Don't trust advertised prefab prices. A company might advertise "$100,000 ADUs" but that's for the shell only. After site work, foundation, permits, and utilities, you're typically at $180,000-$250,000 total.

How a HELOC Works for ADU Construction

The Draw Schedule Advantage

Unlike a lump-sum loan, a HELOC lets you draw funds as construction progresses:

Month 1-2: Permits and design ($20,000 drawn)
Month 3-4: Site prep and foundation ($35,000 drawn)
Month 5-6: Framing and structure ($60,000 drawn)
Month 7-8: Electrical, plumbing, HVAC ($40,000 drawn)
Month 9-10: Interior finishes ($35,000 drawn)
Month 11: Final landscaping and inspection ($10,000 drawn)

Total drawn: $200,000
Interest during construction (6 months average balance): ~$4,000-$5,000 at 8% APR

You only pay interest on the amount you've drawn, which saves money compared to taking a lump sum upfront.

Typical HELOC Terms for ADU Projects

• Credit line: $200,000 - $400,000 (based on available equity)
• Rate: 8.0% - 9.5% variable (as of 2026)
• Draw period: 10 years (interest-only payments)
• Repayment period: 10-20 years (principal + interest)
• Closing costs: $0 - $2,500 (many lenders waive fees for large lines)

Real Example: Numbers That Actually Work

Let's say you own a home in Portland, Oregon worth $600,000 with a $300,000 mortgage.

Available equity:

• Home value: $600,000
• Current mortgage: $300,000
• Max HELOC (80% LTV): $480,000
• Available HELOC: $480,000 - $300,000 = $180,000

You want to build a 650 sq ft detached ADU. Your contractor bids $215,000 total.

Problem: You're $35,000 short.

Options:

1. Scale back to a 550 sq ft unit (~$180,000)
2. Combine HELOC with $35,000 cash savings
3. Wait until home appreciates and you have more equity
4. Do a cash-out refinance instead (more below)

If you have the equity and proceed with the $215,000 build:

Monthly cost during construction (interest-only):

• Average balance during 10-month build: ~$110,000
• Monthly interest at 8.25%: ~$756

Monthly cost after completion:

• Full balance: $215,000
• Interest-only payment: $1,478/month

If you rent the ADU for $2,200/month:

• Gross rental income: $2,200
• HELOC payment: -$1,478
• Utilities (if you cover): -$100
• Maintenance reserve (5%): -$110
• Net monthly cash flow: $512

Annual cash flow: $6,144

Return on investment:

• Cash invested: $215,000 (borrowed, but it's your equity)
• Annual return: $6,144 (2.9% cash-on-cash)
• Plus: property value increase of ~$150,000-$200,000
• Plus: tax benefits (depreciation, expense deductions)

True ROI: Difficult to calculate precisely, but most ADU owners see 8-12% annual return when combining cash flow and appreciation.

Permits and Timeline: What to Actually Expect

Permit Costs by State

• California: $15,000 - $35,000 (most expensive due to impact fees)
• Oregon/Washington: $10,000 - $20,000
• Texas/Arizona: $5,000 - $12,000
• Florida: $8,000 - $15,000

Typical Timeline

• Design and permits: 3-6 months (can be longer in slow jurisdictions)
• Construction: 6-10 months for detached new build
• Garage conversion: 3-6 months
• Prefab installation: 2-4 months after permits

Total time from decision to occupancy: 9-16 months

Many homeowners underestimate the permit phase. In cities like Los Angeles or San Francisco, permit approval can take 6-9 months alone. Budget for this—you'll be paying HELOC interest during permit delays even though construction hasn't started.

When a HELOC Is the Right Choice

✅ You Have Sufficient Equity

You need at least 20% equity remaining after the HELOC. If your home is worth $500,000, you should keep at least $100,000 in equity cushion. Don't drain every dollar—markets fluctuate.

✅ You're Planning to Rent the ADU

If rental income covers the HELOC payment (or most of it), the financing pays for itself. This is the ideal scenario.

✅ You Have Stable Income

Variable-rate HELOCs mean payment risk. Make sure your W-2 income can cover the HELOC payment if the ADU sits vacant or rates spike.

✅ Construction Timeline Is Under 12 Months

HELOCs work great for projects with clear timelines. If your contractor says "12-14 months" assume 16-18 months and make sure you can afford interest-only payments that long.

✅ You Want Flexibility

HELOCs let you draw only what you need. If the project comes in under budget, you don't pay interest on unused funds.

When to Consider Alternatives

❌ You Don't Have 20% Equity After the Draw

Borrowing to 90% LTV is risky. If home values drop 10%, you're underwater and can't refinance or sell easily.

❌ You're Not Keeping the ADU Long-Term

If you're building an ADU to sell the house in 2-3 years, the math rarely works. You won't recoup full construction costs in resale value, and you'll have paid thousands in interest.

❌ You Can't Handle Variable Rate Swings

If a 2% rate increase (adding $300-$400/month to your payment) would stress your budget, consider fixed-rate options instead.

❌ Your Contractor Has a Sketchy Track Record

HELOCs don't offer the same protections as construction loans (which disburse funds based on inspections). If your contractor disappears with $50,000, you're stuck with the debt and an unfinished ADU.

Alternative Financing Options

1. Construction Loan

How it works: Lender disburses funds based on inspection milestones. After construction, converts to a regular mortgage.

Pros:

• Lender oversight protects you from contractor fraud
• Fixed-rate option available
• No equity requirement in your current home (can be standalone loan)

Cons:

• Requires detailed plans and contractor bids upfront
• Higher closing costs ($3,000-$7,000)
• Slower approval process
• Stricter qualification (need good credit and low DTI)

Best for: Homeowners with limited equity or who want lender oversight during construction.

2. Cash-Out Refinance

How it works: Replace your current mortgage with a larger one, taking the difference in cash.

Pros:

• Fixed rate (lock in current rates)
• Single monthly payment (no separate HELOC)
• Potentially lower rate than HELOC

Cons:

• High closing costs (2-5% of new loan amount)
• Resets your mortgage term (back to 30 years)
• Only makes sense if you can get a rate close to your current mortgage

Example: Your home is worth $600,000, you owe $250,000 at 4.5%. You need $200,000 for an ADU. Cash-out refi to $450,000 at 6.75%. Your payment goes from $1,267 to $2,918—an increase of $1,651/month. That ADU rental better cover most of that.

Best for: Homeowners with high-rate existing mortgages who can refinance at similar or lower rates.

3. Personal Loan or Home Improvement Loan

How it works: Unsecured or secured loan with fixed payments.

Pros:

• Fast approval
• No appraisal needed
• Fixed rate and payment

Cons:

• Much higher rates (10-16% typical)
• Lower loan amounts (usually max $100,000)
• Shorter terms (5-7 years = high payments)

Best for: Small ADU projects under $100,000 (garage conversions, small prefabs) where you can pay it off quickly.

4. Cash

How it works: You pay the contractor directly from savings.

Pros:

• No interest
• No debt
• Full control

Cons:

• Depletes emergency fund
• Opportunity cost (money not invested elsewhere)
• No mortgage interest deduction

Best for: Wealthy homeowners with substantial liquid assets.

How to Avoid ADU Budget Disasters

1. Get Three Detailed Bids

Don't accept vague "estimate" spreadsheets. Demand itemized bids with:

• Materials specified by brand/quality
• Labor broken down by phase
• Permit costs included
• Contingency line item (10%)

2. Hire an Experienced ADU Contractor

General contractors who mostly do kitchen remodels will underbid ADU projects because they don't understand the permitting complexity. Find someone who's built 10+ ADUs in your jurisdiction.

3. Budget 15-20% Over the Estimate

Contractors lowball to win bids. Add 15-20% contingency for:

• Permit delays
• Site issues (bad soil, underground utilities)
• Design changes
• Material price increases

4. Don't Start Construction Until Permits Are Approved

"We can start the foundation while permits are processing" is how you get a half-finished illegal structure and a stop-work order.

5. Set Up a Separate HELOC Draw Account

Don't mix ADU funds with household cash. Open a dedicated checking account, draw HELOC funds into it, and pay contractors from there. This makes accounting clean and prevents "oh, we spent $10,000 on vacation instead of the ADU" scenarios.

Tax Benefits and Implications

Good news: ADU construction creates several tax advantages if you rent the unit.

Deductible Expenses

• HELOC interest (for the portion used on the ADU)
• Property taxes (allocable to the ADU)
• Depreciation (residential rental property depreciates over 27.5 years)
• Maintenance and repairs
• Utilities (if you pay them)
• Insurance
• Property management fees

Example: $215,000 ADU depreciates at $215,000 / 27.5 years = $7,818/year in depreciation. Combined with interest deductions, many ADU landlords show a "paper loss" for tax purposes while actually earning positive cash flow.

Talk to a CPA. ADU tax treatment is complex and varies based on whether you use it for personal use, short-term rental, or long-term rental.

Final Decision Framework

Use a HELOC to build an ADU if:

✅ You have 30%+ equity in your home
✅ The ADU will generate rental income covering 70%+ of the HELOC payment
✅ You have 6-12 months of reserves to cover construction delays
✅ You're planning to keep the property 5+ years
✅ You have stable W-2 income to backstop the debt
✅ You've vetted contractors and have realistic bids

Skip the HELOC (consider alternatives) if:

❌ You have minimal equity
❌ You're building the ADU for personal use only (no rental income)
❌ You can't afford payment swings from rate increases
❌ You're planning to sell within 3 years
❌ Your contractor can't provide references or proof of previous ADU work

Building an ADU with a HELOC can be a smart financial move that generates income, houses family, and increases property value. But it requires careful planning, realistic budgets, and enough financial cushion to handle the inevitable surprises that come with construction projects.

Do the math honestly, plan for contingencies, and don't start until you have permits in hand.