New FHA Policy Allows ADUs to Boost Borrowers’ Qualifying Income

In a significant move aimed at addressing the shortage of affordable housing, the U.S. Department of Housing and Urban Development (HUD) and the Federal Housing Administration (FHA) have unveiled a new policy that will allow lenders to consider income from accessory dwelling units (ADUs) when underwriting mortgages. This policy change aims to increase homeownership opportunities and foster the growth of generational wealth.

Read on for details of this new policy and its potential impact on the housing market.

How does the new ADU rental income policy affect borrowers?

Under the new policy, lenders can now include rental income from ADUs as part of borrowers’ qualifying income when applying for FHA financing. ADUs are small units of housing that can be built inside, attached to, or located on the same property as a primary residence. Previously, rental income from ADUs was not commonly considered in mortgage underwriting. This change provides greater flexibility for borrowers, potentially allowing more individuals and families to qualify for FHA financing for properties featuring ADUs, including Rehabilitation mortgages.

“We’re going to allow both existing rental income for ADUs and prospective rental income to be included in the underwriting process to allow more borrowers to purchase properties with ADUs, to rehab existing houses to add ADUs, and to construct new homes with ADUs,” Julia Gordon, HUD’s assistant secretary for housing and federal housing commissioner, said at the 2023 Mortgage Bankers Association Annual Conference.

The new policy allows borrowers to:

• Use 75% of the estimated rental income from an existing ADU to qualify for a mortgage
• Use 50% of the estimated rental income from a new ADU they plan to attach to an existing structure (like a garage or basement conversion) to qualify for an FHA mortgage
• Take advantage of expanded FHA mortgage options for new construction, which now include ADUs

Why was this new policy passed?

The inclusion of ADU rental income in the qualifying income calculation is a step towards addressing the ongoing affordable housing crisis. With housing costs skyrocketing in many areas, ADUs offer a viable solution, increasing housing options for low- and moderate-income households. By leveraging the income potential of ADUs, individuals and families will have increased access to affordable housing, potentially enabling them to enter the homeownership market and build wealth.

“This not only helps more people qualify for homeownership — and then build the wealth that often comes from borrowers who buy a home with rental units — but it also helps boost the supply of affordable housing in many of the neighborhoods where it’s most needed and least available,” Gordon continued.

Are there new appraisal requirements?

To ensure proper implementation, the new policy also includes ADU-specific appraisal requirements. These requirements aim to accurately assess the value of a property with an ADU, considering both the primary residence and the ADU’s rental income potential. By considering the unique features and income-generating capabilities of ADUs, lenders can make more informed decisions regarding mortgage underwriting.

When will this policy be effective?

The new policy is effective immediately, meaning that FHA-approved lenders can now offer mortgages for properties featuring ADUs. This broadens the range of options for individuals and families seeking homeownership and affordable housing solutions. Going forward, this policy may encourage more homeowners to explore the possibility of adding ADUs to their properties, thereby increasing the supply of affordable housing in communities across the country.

The bottom line

The new ADU policy announced by HUD and the FHA represents a significant step towards increasing access to affordable housing and empowering individuals and families to build generational wealth. By considering rental income from ADUs in mortgage underwriting, the policy opens doors to homeownership and expands the pool of qualified borrowers. As the housing market continues to evolve, the inclusion of ADUs as a viable housing option will play a crucial role in addressing the affordable housing crisis and providing individuals with greater control over their financial futures.