Accessory dwelling units (ADUs) are taking the main stage as a solution to add affordable housing units to the market, especially in areas hardest hit by the housing supply shortage.
The rapidly expanding Sun Belt states of California, Florida, Texas and Georgia account for half of the 1.4 million U.S. ADUs identified in a Freddie Mac study. Portland, Dallas, Seattle, Los Angeles and Miami have been the fastest growing metropolitan areas, each with double-digit ADU growth since 2015.
The White House has also recognized the dramatic role ADUs can play as a solution in the affordable housing crisis. Early in 2020, the White House convened a virtual discussion aimed at identifying strategies to make ADU construction easier. The panel examined ADUs' role in increasing the supply of affordable housing, national efforts to streamline the ADU permitting and construction processes and ways to make ADU financing more accessible.
This growth and attention presents a business opportunity for lending institutions who wish to take part in the ADU movement, especially as refinance business slows. To that end, Freddie Mac has expanded our policies for properties with ADUs, providing additional eligibility opportunities to responsibly finance ADU purchases and renovations.
Let's review our recent policy updates, along with new underwriting and delivery requirements you need to know for mortgages on properties with ADUs.
Property Eligibility Expansion
Previously, a mortgage secured by a property with an ADU was eligible for sale to Freddie Mac only if the property was a 1-unit dwelling. In response to recent zoning and ordinance changes in many geographic areas, we have expanded our ADU eligibility requirements to now allow one ADU on 1-, 2- and 3-unit properties.
Using Rental Income to Qualify the Borrower
One of the popular benefits of our expanded policy is the potential to use rental income generated from an ADU on a subject 1-unit primary residence to qualify the borrower.
Previously, rental income generated from an ADU on a 1-unit primary residence could be considered for mortgage qualification only when the borrower had a disability and the rental income was from a live-in aide, or when the mortgage was a Home Possible® mortgage.
Our updated requirements allow rental income generated from an ADU on a subject 1-unit primary residence to be considered when qualifying the borrower for a purchase or a "no cash-out" refinance mortgage, provided certain requirements are met, including but not limited to:
- The ADU must comply with zoning and land use requirements (legal, legal non-conforming or no zoning).
- An appraisal report must be obtained to support the ADU's marketability and include at least one comparable sale with an ADU that is rented. If an automated collateral evaluation (ACE) appraisal waiver is offered, it must not be accepted.
- The appraiser's rental analysis must include a minimum of three comparable rentals that support the market rent of the ADU, and at least one of the comparable rentals must be a property with an ADU.
- The seller must ensure that the ADU rental income used to qualify the borrower for the mortgage does not exceed 30% of the total stable monthly income.
- At least one qualifying borrower must participate in a landlord education program or have previous landlord experience for a minimum of one year.
Entering ADU rental income in Loan Product Advisor
When entering rental income from an ADU on a subject 1-unit primary residence, sellers should select AccessoryUnitIncome under the Income Type data point (ID #258) as detailed in the Loan Product Advisor® (LPASM) v5.0.06 Data Specifications.
ACE eligibility in Loan Product Advisor
When rental income generated from an ADU on a subject 1-unit primary residence is used to qualify the borrower, sellers must ignore the ACE appraisal waiver message and the corresponding data in the Assessment Summary of the Feedback Certificate that indicates ACE eligibility, if offered, because an appraisal report must be obtained.
LPA will be updated in the fall of 2022 with a new feedback message reminding sellers that if rental income generated from an ADU on the subject 1-unit primary residence is used to qualify the borrower, an ACE appraisal waiver may not be accepted. This message will only return on the Feedback Certificate if the rental income generated from the ADU is entered into LPA as described above.
Delivery Requirement
Sellers must deliver the valid value of "J66" for ULDD Data Point Investor Feature Identifier (Sort ID 368) for a mortgage secured by a 1-unit primary residence with rental income generated from an ADU.
No Cash-out Refinance Mortgage to Help Finance ADU Construction or Renovation
Most ADUs are additions or renovations to existing properties rather than inclusions in new construction. Freddie Mac's CHOICERenovation® mortgage provides an option to use a no cash-out refinance mortgage to pay off short-term financing that financed ADU renovations, including the addition or renovation of an ADU, that is completed prior to the note date.
