Huge Update – ADU’s Get Some LOVE

Freddie Mac released guidance on June 1st 2022 that allows for rental income to be used for qualifying on ADUs for purchase and non-cashout refinance transactions. Additionally 2-3 units properties that have one ADU (previously it was only single units) are eligible. Furthermore, manufactured homes can also be considered an ADU of a single family home (see guides below). I anticipate that this will help bolster the value of homes with ADU’s as they will be more widely marketable.

Guidelines as of 6/3/2022

Highlights:

  • You can use rental income for ADUs as qualifying income on single family properties with 1 ADU
  • If you have owned it we will use schedule E on your tax returns to calculate income
  • If you are purchasing a new home with an ADU we will use the 75% of lease agreement. If there is no current lease we will use 75% of what the appraiser determines are market rents
  • If you have no landlord experience you will need to take a landlord class to use that income.
  • 2-3 Units properties with 1 ADU can now qualify for conventional financing, but currently the income from that ADU cannot be used for qualifying purposes
  • A single family with a single Manufactured home on the property that meets requirements (see below) can be considered a single ADU.
  • Fine print below!

RENTAL GUIDES FOR ADUS

Eligible Loan PurposeThe Mortgage must be a purchase or “no cash-out” refinance transaction.
Documentation RequirementsPurchase Transactions Reasonable efforts must be made to determine lease availability, including a review of the appraisal, comparable rent data, purchase contract, a discussion with the Borrower and/or any other applicable and reasonable method.If a lease is available, then:The lease must be used to determine the net rental income, and ADU rental analysis, as described in Additional Appraisal Requirements (in this table), must support the income reflected on the leaseIf a lease is not available, the ADU rental analysis must be used to determine the net rental income.

No Cash-Out Refinance Transactions ADU Placed in Service in Current Calendar Year A lease must be used to determine the net rental income, andADU rental analysis, as described in Additional Appraisal Requirements (in this table), must = support the income reflected on the lease, andThe Mortgage file must contain documentation reflecting the date the ADU was placed in service ADU Owned in Prior Calendar Year The Borrower’s complete federal income tax returns (IRS Form 1040), including Schedule E, for the most recent year must be used to determine the net rental income, except as stated belowA lease and ADU rental analysis, as described in Additional Appraisal Requirements (in this table), may be used if:The property was out of service for any time period in the prior year and the Mortgage file contains a documented event such as a renovation and the Schedule E supports this by a reduced number of days in use and reflects repair costs; orThe property was purchased later in the calendar year and the Schedule E supports this by a reduced number of days in useIn either of the above instances, an ADU rental analysis is required to support the income reflected on the lease.
Lease RequirementsWhen a lease is obtained in accordance with the minimum income documentation requirements above, the lease must be current and fully executed, with a minimum original term of one year. If the lease is documented as assigned from the property seller to the Borrower and is in the automatically renewable month-to-month phase of an original one-year (or longer) term lease, then a month-to-month term is acceptable.
Additional Appraisal RequirementsThe following information on the ADU is required within the appraisal report:Information on the ADU must include the:General condition of unitSquare feet of finished areaTotal number of rooms including number of bedrooms and bathsThe appraisal report must indicate the ADU is allowed per zoning and land use requirements (i.e., legal, legal non-conforming, no zoning)Comparable sales within the Sales Comparison Approach section must include at least one comparable sale with an ADU that is rentedThe rental analysis must include a minimum of three comparable rentals to support the opinion of market rent applicable to the ADU. At least one of the comparable rentals must include a rented ADU to support the market rent for ADUs. The appraiser may provide this rental analysis data in narrative form within the appraisal report or by attaching a separate rent schedule to the appraisal report.
See Accessory Dwelling Units‍  for additional requirements for a property with an ADU.
Net Rental Income Calculation RequirementsThe rental income generated from an ADU may be considered in an amount up to 30% of the total stable monthly income that is used to qualify the Borrower for the Mortgage.The following are requirements for calculating net rental income used for qualifying the Borrower.Lease: 75% of the gross monthly rent or gross monthly market rentADU Rental Analysis: The 25% adjustment is made to compensate for vacancies, operating and maintenance costs and any other unexpected expenses.Schedule E: Calculate the net rental income from Schedule E using Form 92, Net Rental Income Calculations – Schedule E, or a similar alternative form.
Landlord ExperienceFor purchase transactions, at least one qualifying Borrower must participate in a landlord education program prior to the Note Date, or the Effective Date of Permanent Financing for Construction Conversion and Renovation Mortgages, unless the Borrower has a minimum of one year of Investment Property management experience or ADU rental management experience. Landlord education must not be provided by an interested party to the transaction, the originating lender or the Seller. A copy of a certificate evidencing successful completion of the landlord education program must be retained in the Mortgage file.

GENERAL ADU GUIDES

ADUs are permitted when the subject property is a 1-, 2-, or 3-unit property that has one ADU. The dwelling with an ADU must be legal, legal non-conforming (based on the zoning and land use requirements), or located in an area without zoning, however,  an ADUon a 1-unit dwelling that does not comply with zoning requirements may be eligible if the Comparable Property Requirements for ADUs Based on Zoning (below) are met.

  • An ADU is an additional living area that includes a kitchen, a bathroom, and a separate entrance and is independent of the primary dwelling unit. Examples of eligible ADU configurations include:
    • a 1-, 2-, or 3- dwelling with an ADU above a garage,
    • a dwelling with an attached or detached ADU, or
    • a dwelling with an ADU in the basement.
  • To be eligible, the ADU must be subordinate in the living area and contribute less to the value of the property than the primary dwelling unit. 
    • Zoning and land use requirements must be considered by the appraiser to make this identification. 
    • consider all property characteristics, specifically the unit’s utility and the property’s highest and best use, when making this determination. 
  • If the appraiser determines the subject property has an ADU, the appraisal report must include a description of the ADU and reflect any effect the ADU has on the market value or marketability of the subject property. The description of the ADU must include, but is not limited to, the general condition of the ADU, the room count specifying the number of bedrooms and baths and the square footage of the ADU’s living area.
  • Ineligible property types:
    • A 2- or 3-unit property with an ADU that does not comply with zoning and land use requirements (illegal zoning)
    • A 1-, 2- or 3-unit property with two or more ADUs
    • A 4-unit property with an ADU

Manufactured Home ADU 
Freddie Mac will purchase a Mortgage on a 1-, 2-, or 3-unit property that contains a Manufactured Home ADU that meets the requirements for a property with an ADU and the following:

  • The Manufactured Home meets the property eligibility requirements in the MFH guidelines and Manufactured Title requirements.
  • The Manufactured Home ADU must be legally classified as real property
  • A Manufactured Home ADU must have a minimum of 400 square feet of gross living area and meet the HUD Codes for Manufactured Homes (HUD Codes) (Note: Fairway requires a minimum of 600 Sq ft)
  • A Manufactured Home may not be an ADU for a Mortgage secured by a Manufactured Home. 
  • The appraisal report for a 1-, 2-, or 3- unit property with a Manufactured Home ADU must include the following:
    • Confirmation that the HUD Data Plate/Compliance Certificate is attached to the dwelling. If not attached, the appraiser must provide the data source(s) for the HUD Data Plate/Compliance Certificate information reported.
    • Confirmation that the Wind, Roof Load and Thermal Zones meet the minimum HUD requirements for the location of the subject property. If the unit does not meet these requirements, the appraiser must address.
    • Confirmation that the HUD Certification Label is attached to the exterior of each section of the dwelling. If not attached, the appraiser must provide the data source(s) for the HUD Certification Label information reported.
    • Manufacturer’s Serial #(s)/VIN #(s)
    • HUD Certification Label #(s)
    • Manufacturer’s Name
    • Trade/Model
    • Date of Manufacture
    • Describe any additions or modifications made to the Manufactured Home (decks, rooms, remodeling, etc.). 
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