Using a HELOC to Fund an ADU in California?

What Is a HELOC for ADU Construction?

A HELOC for ADU construction is a revolving credit line secured by your home’s equity, giving California homeowners flexible access to funding for designing, permitting, and building an accessory dwelling unit (ADU) or granny flat as expenses arise. A HELOC works similarly to a credit card but with a lower, often variable rate — you borrow only what you need and pay interest solely on the amount drawn, making it a practical loan option for phased construction plans. This structure is one reason HELOCs are among the most popular ADU financing methods in California, with 56% of mortgage-based ADU financing coming from HELOCs or home-equity loans, according to the Urban Institute.

A Home Equity Line of Credit, as defined by Citizens Bank, allows homeowners to “borrow, repay, and borrow again” during the draw period — making it ideal for covering incremental building costs, site work, and construction management needs throughout the Feasibility process. This type of ADU HELOC has become increasingly important as statewide ADU development accelerates. According to California YIMBY, ADU permits increased by 15,334% from 2016 to 2022, reaching 83,865 units, with nearly one in five new California homes being an ADU. In San Diego, ADUs account for 30–45% of new housing permits, according to Governing, highlighting strong market demand for backyard cottages, garage conversions, and prefab ADU options — and why tapping home equity through a HELOC has become a leading strategy for local homeowners.

A HELOC works best for ADUs because costs arrive in phases—think of it as a flexible funding pool you tap only when each stage is ready.

Why HELOCs Are So Popular for ADUs in California

HELOCs have become a leading way for California homeowners to finance ADUs because they allow owners to access tappable home equity without refinancing their low-rate first mortgages or taking on large closing costs. With some of the highest market values in the country, California homes often provide ample equity, making loan approval easier and increasing the potential line amount a homeowner can qualify for. This flexibility is especially useful when managing phased building permits, designs, and construction costs for an accessory dwelling unit or junior ADU.

In San Diego, where ADU construction typically ranges from $160,000–$280,000 for a 500–800 sq. ft. unit, homeowners often use a HELOC to cover expenses tied to site work, building contracts, and construction crews without tapping retirement savings accounts. According to the Urban Institute, 56% of mortgage-based ADU financing comes from HELOCs or home-equity loans, and the average HELOC borrower holds a 760 credit score, underscoring how accessible this financing option is for many households. Homeowners also choose HELOCs because they preserve their existing mortgage rate while offering interest-only payments during construction — a major advantage when building a new living space such as a modular ADU, prefabricated ADU, or Basement Apartment conversion.

HELOCs let homeowners keep their low first-mortgage rate while still unlocking equity—ideal when you want a rental or multigenerational unit without refinancing.

How a HELOC Works for ADU Funding (Step-by-Step)

Step 1 — Calculate Your Equity and Borrowing Power

To determine how much you can borrow, start by estimating your home’s value and subtracting your remaining mortgage balance. For example, an $800,000 home with a $500,000 mortgage may allow for roughly a $140,000 HELOC, assuming lenders permit 75–85% loan-to-value (LTV). Primary residences can qualify for 80–90% LTV depending on the lender. This calculation helps you understand whether your available equity can cover the anticipated ADU construction budget.

Step 2 — Get Pre-Approved for a HELOC

Most HELOC lenders require verification of income, a strong credit score (typically around 700+), a home appraisal, and acceptable debt-to-income ratios. For investment properties, the requirements are stricter: many lenders look for a 720+ credit score and limit borrowing to 70–75% LTV. These standards reflect what’s commonly seen in the market and align with trends reported in ADU financing research from the Urban Institute.

Step 3 — Draw HELOC Funds to Cover ADU Phases

HELOCs offer unmatched flexibility for staged construction because you can “draw only what you need, when you need it,” as highlighted by Better Place Design & Build. ADU projects typically require funding in phases—covering design, engineering, permits, construction, materials, and utility hookups. Because HELOCs operate as revolving credit, funds can be accessed and paid down throughout the draw period as invoices arise.

Step 4 — Manage Interest-Only Payments During Build

During the draw period—typically 5 to 10 years—most HELOCs require interest-only payments, helping keep monthly costs low while the ADU is being built. As of November 12, 2025, the national average HELOC interest rate is 7.81%, according to Bankrate. For homeowners renting out their ADU, this structure offers a valuable financial window. As LendEDU explains:

“And if you’re hoping to use the ADU as a rental property, a HELOC buys you some time to recoup some of the investment. That’s because HELOC draw periods can last five to 10 years. If construction only takes a year, you potentially have four to nine years before you start repaying the HELOC’s principal balance.”
— LendEDU

This gives homeowners time to generate rental income before full repayment begins.

Step 5 — Transition to Repayment or Refinance Later

When the draw period ends, the HELOC transitions into a 10–20 year repayment period, during which you begin paying both principal and interest. Some homeowners later choose to refinance their HELOC and primary mortgage into a single fixed loan, especially after the ADU is completed and contributing to rental income or increased property value. This can provide long-term stability and potentially lower monthly payments depending on market rates.

Align HELOC draws to your build schedule—pull funds right before each phase to reduce interest carry during slower permitting or inspection windows.

How Much You Can Borrow With a HELOC in California

Most California lenders allow homeowners to borrow 75–85% of their home’s value minus the remaining loan principal, giving many San Diego households access to $100,000–$200,000+ in tappable equity. Because market values in the region are high, a HELOC often provides enough funding to cover major ADU expenses such as designs and permits, construction management, and site preparation—without requiring homeowners to switch to a fixed-rate loan or refinance their first mortgage.

For primary residences, some lender policies allow 80–90% LTV, depending on income, credit, and local building codes. For example, if your home is valued at $800,000 with a $500,000 mortgage balance, an 80% LTV limit would support up to $640,000 in total secured debt, leaving room for a ~$140,000 HELOC. With neighborhoods across San Diego—such as Clairemont, North Park, and Chula Vista—having strong ACV (As-Complete Value) projections for ADU additions, many homeowners find their available equity comfortably supports construction budgets. This strong borrowing capacity is a key reason HELOCs represent 56% of ADU-related mortgage financing, according to the Urban Institute.

Pros and Cons of Using a HELOC to Build an ADU

Pros

Flexibility to draw funds as needed

HELOCs let homeowners borrow in stages throughout the ADU project, making them “ideal due to flexibility, low rates, and incremental draws,” as noted by local ADU financing experts. This is especially helpful when coordinating designs, permits, and work with a construction management vendor.

Low initial payments during the draw period

Most HELOCs offer interest-only payments for 5–10 years, keeping early interest payments manageable while the ADU is being built or prepared as a short-term rental or extended living space.

Lower interest rates than credit cards or personal loans

Because a HELOC is secured by your home, interest paid is generally lower than unsecured financing options and may align with the Prime Rate rather than higher consumer loan rates.

Tax-deductible interest

HELOC interest is often tax-deductible when funds are used to “buy, build, or substantially improve” the home securing the loan — a common advantage for homeowners adding an ADU. These tax deductions make HELOCs more appealing than products like FHA 203(k) or other renovation loans.

Strong ROI potential (5–20%+)

ADUs in San Diego can generate 5–20%+ annual return on investment, depending on zoning requirements, construction costs, and rental strategy.

High rental income potential. Typical monthly ADU rents in San Diego include:

• Studios: $1,800–$2,200/mo
• 1-bedroom: $2,200–$2,700/mo
• 2-bedroom: $2,800–$3,500/mo

In many cases, rental income exceeds the HELOC’s interest-only payment, making it easier to cover financing and ongoing homeowner’s insurance or maintenance costs.

Cons

Variable interest rates

Most HELOCs have adjustable rates tied to the Prime Rate, meaning monthly interest payments can rise over time. The California ADU financing guide highlights that “HELOCs often come with variable interest rates,” which may create uncertainty later.

Your home is collateral

Because the HELOC is secured by your property, missed payments could put the home at risk. This is a key consideration when reviewing local regulations and long-term Household Income stability.

Payment shock after draw period

When the 5–10 year draw period ends, HELOCs shift to full repayment, including principal + interest, which can significantly increase monthly payments compared to the initial interest-only period.

Reduced home equity and increased leverage

Borrowing against your home reduces available equity and increases your overall debt load, which may affect future refinancing or eligibility for other programs such as state grants or the CalHFA ADU Grant Program.

Use a HELOC’s draw-as-you-go flexibility to match real construction milestones—site work, framing, and finishes—so you’re not paying interest on funds you don’t need yet.

How Much an ADU Costs in San Diego (And How a HELOC Covers It)

Building an ADU in San Diego typically costs $160,000–$280,000 for a 500–800 sq. ft. attached unit, according to cost analyses from local builders. Larger or detached ADUs frequently exceed $300,000, especially when adding full kitchens, upgraded finishes, or complex utility connections. These costs make HELOCs an ideal financing tool, since most San Diego homeowners can access $100,000–$200,000+ through their home equity — enough to cover a major portion of ADU expenses. The permitting and design phase usually takes several months, followed by a 4–8 month construction timeline, which aligns well with the interest-only draw period offered by most HELOCs.

A HELOC is especially well-matched for ADU financing because funds can be drawn gradually throughout design → permits → construction, ensuring homeowners only pay interest on what they’ve used. Combined with strong San Diego rental rates, many homeowners find that an ADU can cover a large portion — or even all — of the monthly HELOC payment.

San Diego ADU Cost & HELOC Coverage Table

Will Building an ADU Increase My Property Taxes?

Yes. In California, adding an ADU will increase your property taxes only based on the value of the new structure, not your entire home — a protection established under Prop 13. Your primary residence keeps its original assessed value, while the ADU’s construction cost is added as a supplemental assessment. For example, if your ADU costs $200,000 to build, property taxes may rise by about $2,000 per year, assuming the standard 1% base rate used in most counties.

Prop 13 ensures that building an ADU does not trigger a full reassessment, which is especially helpful for San Diego homeowners navigating zoning laws, zoning restrictions, or long-term planning with Home Loan Consultants. Because many ADUs rent for $1,800–$3,500 per month, the rental income often offsets the modest tax increase—making ADU construction appealing whether you’re expanding living space, creating a remote work office space, or boosting property value.

Plan for a supplemental tax bump tied only to the ADU’s value; many owners budget for it upfront and offset it with projected rent.

Is HELOC Interest Tax Deductible for an ADU?

Yes — HELOC interest is tax deductible if the funds are used to “buy, build, or substantially improve” the home that secures the loan, which includes building an ADU on your property. This falls directly under IRS rules for qualified home improvement debt. However, the deduction is limited to interest on a total of up to $750,000 in combined mortgage debt for married couples filing jointly (or $375,000 for single filers).

According to guidance from Citizens Bank, HELOC interest remains deductible as long as the borrowed funds directly improve the property — a rule that fully applies to ADU construction because it “substantially improves” the home. When using a HELOC for an ADU, homeowners should keep detailed records, invoices, and proof of how funds were used, as recommended by tax professionals and lenders. This ensures the interest remains eligible for deduction and supports documentation in the event of an IRS inquiry.

Keep a clean paper trail—contracts, invoices, and permit docs—so HELOC interest clearly ties to ADU improvements and remains deductible.

Can Investors Use a HELOC to Build an ADU?

Yes — real estate investors can use a HELOC to build an ADU, but the requirements are stricter because fewer lenders offer HELOCs on non-owner-occupied properties. Investment-property HELOCs typically require a 720+ credit score and limit borrowing to 70–75% loan-to-value (LTV), reflecting the higher lending risk compared to primary residences. These thresholds align with market guidance cited in ADU financing research and lender underwriting standards.

For investors who qualify, using a HELOC can be a profitable strategy when the ADU generates meaningful additional rental income. In San Diego, ADUs commonly rent for $1,800–$2,500 per month for studios and one-bedroom units, based on local rental analyses from Better Place Design & Build. This added cash flow can offset the HELOC’s interest-only payments during the draw period and significantly improve long-term return on investment once the ADU is leased.

Investors should run conservative rent assumptions against a variable-rate HELOC to ensure the unit stays cash-flow positive even if rates rise.

ADU Rental Income Potential in San Diego

San Diego’s ADU rental market is one of the strongest in California, making ADUs an attractive investment for homeowners and landlords alike. According to local ADU rental data, typical monthly rents are: $1,800–$2,200 for a studio, $2,200–$2,700 for a one-bedroom, and $2,800–$3,500 for a two-bedroom unit. These figures reflect San Diego’s high housing demand and limited supply — a key reason ADUs consistently perform well as rental properties.

The strong rental income also contributes to the impressive 5–20%+ return on investment (ROI) that ADUs can generate based on regional ADU performance analysis. In many cases, rental revenue can exceed the monthly HELOC cost during the interest-only draw period. For example, a $200,000 HELOC at 8% interest results in an estimated $1,333 per month interest-only payment, while the average one-bedroom ADU in San Diego rents for approximately $2,200 per month. This positive cash flow spread demonstrates how an ADU can effectively help cover financing costs while building long-term equity and property value.

ADUs for Multigenerational Living (San Diego Perspective)

ADUs have become one of the most practical and emotionally meaningful solutions for multigenerational living in San Diego, especially for adults caring for aging parents or supporting adult children who can’t yet afford a home. Assisted living facilities typically cost $4,000–$8,000 per month, placing a significant financial burden on families. In contrast, the monthly debt service on a well-built ADU — even a “deluxe” unit — can be under $2,000 per month, making it a far more affordable long-term solution. (aPlaceforMom)

For San Diego’s 35–65 demographic, this cost difference is life-changing. An ADU allows families to keep loved ones close, maintain independence, and avoid the emotional and financial strain of institutional care. At the same time, a HELOC-funded ADU builds long-term equity into the property, creating both a family solution and a financial asset for future generations.

For multigenerational ADUs, prioritize single-level layouts and wider clearances early in design—retrofits cost far more than planning accessibility upfront.

HELOC vs Other ADU Financing Options (Brief Comparison)

Homeowners exploring ADU financing in California often compare multiple loan types, but deep research from local ADU experts and statewide housing studies consistently shows that “a HELOC is typically the simplest way to finance an ADU.” This is largely because HELOCs offer flexible, draw-as-needed access to funds, lower upfront payments, and tax-deductible interest when used to “buy, build, or substantially improve” the home securing the loan. Other financing options may work in specific situations, but they come with more restrictions, higher initial costs, or the risk of replacing a homeowner’s low-rate first mortgage.

This comparison highlights why HELOCs dominate ADU financing: they account for 56% of all mortgage-based ADU financing in California, according to the Urban Institute’s statewide analysis of ADU homeowners.

ADU Financing Options Comparison Table

Final Thoughts

Building an ADU in San Diego has never been more financially accessible — or more in demand. With 56% of mortgage-based ADU financing coming from HELOCs, HELOCs remain the #1 financing method for California homeowners looking to add rental income, support family members, or boost property value. ADU development continues to surge statewide, with a 15,334% increase in ADU permits between 2016 and 2022, demonstrating how rapidly this housing option is expanding.

In San Diego specifically, strong ADU rental rates — commonly $1,800–$3,500 per month — often offset or even exceed the interest-only HELOC payment during the draw period. For many homeowners, this means an ADU can pay for itself while adding long-term equity and flexibility.

If you’re a San Diego homeowner considering an ADU, now is the ideal time to explore your HELOC options and understand your equity position. An expert ADU builder like Better Place Design & Build or financing specialist can help you calculate borrowing power, evaluate project feasibility, and design a unit tailored to your property and goals.

If your lot supports an ADU, the long-term value comes from pairing smart financing with a build that fits neighborhood demand and rental price points.