ADUs and Condos: Separating Ownership

Q. How is it that the accessory dwelling unit pictured below is being sold separately from the primary home on the same lot?

A. It’s legally structured as a condominium.

IMPORTANT NOTE!  This is currently a very uncommon form of ADU ownership.  If you just want to learn how to build an ADU on your own property, for example a cottage for your grandmother, and keep the ownership for yourself, you don’t need to get in to this material.  Some great starting points on the site are this video or these pages: What Is An ADU? ; Getting Started ; and our whole gallery of sample projects.

With the scarcity of vacant single family lots in close-in neighborhoods, rising home prices, and many small households trying to shift from renting to owning, it’s not surprising to find lots of interest in using the condominium legal structure to separate ownership between primary and accessory dwelling units. This post will provide an overview of how this can be done and, perhaps, light the way for more use of this technique going forward.

Disclaimer: I’m a developer, general contractor, policy wonk and advocate, but not an attorney. So if you want to try this at home, please do so only with local, legal expertise.

We’ll start with a little more Q&A, then roll into a description of how it all works.

Q. Can ownership of a primary dwelling and its ADU be separated through the condominium process?
A. Yes.

Q. Does this allow both buyers (of the primary dwelling and ADU) obtain independent mortgage financing for their homes?
A. Yes.

Q. Could someone create a 4 (or 6 or 8…) unit condominium association consisting of primary + ADU couplets on adjoining lots?
A. Yes.

Q. How much does it cost to do this?
A. $20K or less per small condo project in Portland.  Costs likely vary with jurisdiction.  This doesn’t include costs associated with financing.

Q. Where and when has this been done?
A. I did it in Portland in 2006 with Sabin Green, a 4-home community consisting of two primary dwellings on adjoining lots, each with an ADU. Typically, there would be two owners in this situation: 1 per lot. But for this project, I submitted the 2-lot property to condominium ownership and defined each of the 4 homes (2 primary dwellings and 2 ADUs) as a separate condominium unit. This same model is being applied in another Portland development (Woodstock Gardens). Although I don’t know of specific examples from other jurisdictions, I suspect it’s been done elsewhere in the US too.

Conceptual overview
It is commonly understood that multi-story multifamily properties can either be owned as condominiums or by a single entity and rented out. Although single family homes are most often located on individual lots and owned as such, it’s not too uncommon to find a few single family homes on a single large lot. In such instances – just like multifamily properties – they can either be owned as condominiums or by a single entity and rented out. Yet there seems to be confusion about whether this same flexibility in ownership is available for an accessory dwelling unit and primary dwelling on the same lot.

Here’s one way to think about it. Zoning and building codes determine how properties can be partitioned into lots, what can be built, and how land and buildings can be used. But with few exceptions, these regulations are typically ‘tenure neutral,’ meaning that they have nothing to say about the relationship between who lives in a home and who owns it. In other words, they’re usually silent about how property is owned.

Consider once again the example of large, multi-story buildings. When a city permits such projects, there’s often no hint as to whether ultimate ownership will be as a single property or as a bunch of condominiums. Codes ensure that buildings are safe and sanitary and adhere to height, bulk, density, buffers, and other zoning requirements. But how a building is owned or financed is another matter entirely, typically completely outside of the purview of the city that does the zoning review and issues building permits. In fact, the developer’s (or subsequent building’s owner) decision on whether or not to submit the project to condominium ownership is often made in response to changing market conditions. And when a decision to change the legal ownership structure of a building is made, the local jurisdiction never needs to find out because (at least in Portland) it has no role in the condominium review or approval process.

Now let’s shift to single dwelling zones, where condominiums can also be set up but are far less common. In these relatively low-density portions of cities and towns there’s a preferred way to create separate ownership of homes: the subdivision process. But what if there’s a desire to separate ownership and subdivision isn’t an option?

This situation arises most often when (1) properties are on top of one another as described previously in multi-story buildings, or (2) land use regulations make it difficult or impossible to subdivide property horizontally (ie. minimum lot sizes can’t be met; subdivision regulations that preclude a desired site layout; there’s no way to provide every lot required street frontage). For these instances, use of condominium ownership to separate ownership is the only choice . Conveniently, all 50 states and the District of Columbia have adopted condominium statutes that allow property to be converted to condominium ownership and back again, if desired. The power and appeal of the condominium legal structure is to offer a way to separate ownership between units in settings where subdivision doesn’t work.

Condominiums 101
Legally, condominiums are ‘creatures of the state,’ meaning that their existence depends on state laws that lay out the rules for their creation, maintenance, and dissolution. Each condominium project contains a group of housing units, defined by a map (‘the ‘Plat’) and narrative description (found within the ‘Declaration’). Condo unit owners each own a defined volume of air plus an undivided interest in the shared elements of the condominium property (called “General Common Elements”) as drawn on the Plat and defined in the Declaration. These typically include the underlying land and any structures or parts of structures that need to be maintained by the association rather than by individual unit owners. In traditional multi-story buildings, the common elements include the underlying land and the building’s foundation, structural elements, insulation, common utility lines, windows & doors, roof and siding. Individual unit are usually defined to include the volume of air ‘from the paint in’ or some other appropriate demarking surface.

But there are plenty of other ways to apply the legal structure of condominiums to real estate. It’s possible to define single family homes on one or multiple lots as separate condo units, where each unit is defined to extend from below the foundation to above the roof peak, and out to just beyond the eaves. It would also be technically possible to separate a single house into condominium units, with each unit defined to encompass a single bedroom and with the kitchen, living room, hallways, stairs and bathrooms designated as common elements.  I suspect the main reason this doesn’t get done in high-cost areas is that mortgage financing wouldn’t be available for this sort of unit because lenders would feel uncomfortable in their ability to re-sell should they end up taking ownership of the ‘unit’ through foreclosure.  It does, however, illustrate the flexibility of the condominium legal structure.

In multifamily buildings, things can get even more complex. For instance, it’s not uncommon to have the ownership of a building divided into a 2-unit condo where the ground floor condo unit contains commercial space and the rest of the building is a second condo unit that contains within it a bunch of rental apartments. Over time, ownership structures can change with no accompanying physical change to the building(s). For instance, apartment buildings can be converted to condominiums, and on occasion, condominium associations get dissolved, leaving the property with a single legal owner.

One example
Here’s a step-by-step account of how the development process worked for Sabin Green.
(1) I bought the property, which consisted of 2 side-by-side lots: 1 with a house + garage and the other vacant.
(2) I submitted an application to the City of Portland for permits to convert the garage to an ADU and to build a house + ADU on the side lot.
(3) I got a construction loan to build the project, secured by the entire property. The loan size was based on the total, as-completed, appraised value of the 4 homes that ultimately would be sold as condominiums.
(4) Once permits were in hand, we built the new homes (primary + ADU), renovated the existing house, and converted the existing garage to an ADU.
(5) While construction was underway, the condo attorney drafted up the condominium documents (Declaration, By-laws, unit sale agreements…) and the surveyor drew up the plat to physically describe the boundaries of the 4 condominium units. This involved taking physical measurements of the building volumes and locations on the site, then drawing them up to clearly depict the 3-dimensional boundaries of each unit and of the common elements. The full plat is linked to here, and a snippet is pasted below to provide an idea of what these things look like.

(6) The condominium documents and plat were submitted to the State of Oregon’s Real Estate Agency for review against the requirements of the state’s condominium statute. Concurrently, these same documents were sent to the County Surveyor to make sure they met the County’s requirements for defining real property. Note that there was no role for the City of Portland in either of these reviews.
(7) When construction was complete, The City of Portland issued Certificates of Occupancy for all the new homes.
(8) Once approved by the State and County, the Declaration, By-laws and plat were recorded with the County. At this point, the property officially switched from being 2 side-by-side tax lots into being 4 condominium units, each with its own legal description and property tax ID number. Only at this point did it become possible to sell the homes to separate buyers, each financed and secured by separate mortgages.
(9) I sold the 4 homes to 4 separate buyers. With each sale, I paid down a pre-arranged portion of the construction loan (the “release fee”) in exchange for the construction lender’s “partial release” of its interest in the condo unit being sold. Although this sounds complicated, it’s standard practice for how construction loans get paid off when real estate is sold in pieces rather than all at once.

Details, details…

Financing and Collateral
Mortgage lenders go to great lengths to maximize their chance of recouping loan proceeds should their borrower go into default. A key way they accomplish this is by using a deed of trust to secure interest in real property, which serves as collateral for the loan. Simply put, lenders make sure that if the borrower stops paying, they can take back the property, sell it, and use the proceeds to make themselves whole.

What does this have to do with condominiums and ADUs? The main motivation for splitting up a primary and accessory dwelling unit is to allow them to be sold separately to two different buyers, each with their own mortgage financing. Typically, one legal description and tax ID # apply to the entire lot, covering both the primary and accessory dwelling unit. That means there’s no way for a mortgage lender to secure a legal interest in just the primary or accessory dwelling unit; they automatically get both. The condo process yields separate legal descriptions and tax ID #’s for the two homes, allowing them to each serve as collateral for a different buyer’s mortgage financing. That’s how the condominium process resolves the collateral issue so mortgage lenders can offer financing for ADUs.

Owner-Occupancy Requirements
Many jurisdictions have owner-occupancy requirements for properties with ADUs. Does this raise complications for a condominium conversion? It shouldn’t. In fact, condominium ownership creates the opportunity for both homes to be owner-occupied! Although it would technically be possible for each condo owner to rent out their home, standard condominium documents have owner-occupancy requirements in excess of 50% in order to assure favorable mortgage financing for buyers. That said, if your local jurisdiction has an owner-occupancy requirement, it’s probably not a bad idea to explicitly reference this requirement in the condominium by-laws to make sure buyers are aware of it.

Household Size Limits
Some jurisdictions require that the total number of people living in a primary dwelling plus ADU can’t exceed the threshold for a single household, as defined in the zoning code. Does this create a problem? Once again, it shouldn’t. Assuming the household size limit isn’t too hard to live with (Portland defines a household as 5 unrelated individuals plus any number of people related by blood, marriage, adoption…), you can just note this restriction in the condominium documents so buyers know it applies and leave it at that. Technically, a mortgage lender might be concerned about the primary dwelling using up nearly all the allowable household members, hence limiting the number of people who could legally live in the ADU. In practice, this is far-fetched enough that I’ve never seen it arise as a concern for buyers or lenders.

Jurisdictional Roles in the Condominium Process
Although Portland, OR has no role in the condominium process, that’s not true everywhere. San Francisco exercises strict controls over condominium conversions through a lottery process (suspended until 2024) and an “Expedited Conversion Program.” Many towns and cities in Massachusetts require permits for condominium conversions with varying approval conditions. The State of Oregon also provides protections for tenants in condominium conversions, but this is handled at the state, not local, level – so is addressed in the state’s review of condominium documents. Although most of these controls are geared towards protecting tenants, it’s possible for local jurisdictions to intercede in the condominium process for other reasons too (ie. making fire safety upgrades in older buildings a condition of approval for condominium conversion). If you’re interested in using condominium law to separate ownership between a primary and accessory dwelling unit, consult with your local permitting jurisdiction to see what their level of involvement would be, if anything.

Conversion Costs:
Costs associated with converting property to condominium ownership include: legal costs to prepare documents and revise as necessary through the review process; surveyor costs to take physical measurements at the property and draw up the plat; fees for the state and county to review the condominium documents and plat against statutory requirements; recording fees for the plat and declaration; and someone to manage the process.  In Portland, these costs would typically come in at $20K or less for a small condo project.  It might be possible to get costs down to $15K or below through standardized condominium documents, a very simple way of defining unit boundaries to minimize legal and survey work scopes, and efficient project management.

Cost Caveats:  Although legal and surveying costs probably don’t vary too much, review and recording fees may vary significantly across jurisdictions.  With condo conversions of existing structures, legal protections for existing residents who might face displacement can add cost and timing to the process.  New construction projects for sale as condominiums may have higher insurance costs than identical projects without a plan for condominium sale.

Implications for Affordability
It’s not too hard to imagine market conditions that would cause condo conversions of primary + ADUs to take off.  If this happens, it will provide lower cost home ownership opportunities in single dwelling zones than currently exist.  This would be true both for the ADUs, which would sell for significantly less than full sized homes in the same neighborhood, and for the primary homes, which would be effectively stripped of their yards.  Alongside this trend, there may also be a loss of affordability through a reduction in the likelihood of positive irrationalities (e.g. cheap rent for grandma), that have been observed for ADUs in Portland and the Bay area, as described in Martin Brown’s post on “Do ADUs provide affordable housing?”  Until we see more examples of this model in practice, it will be hard to come to any broad conclusion on whether condo-ization of ADUs has a net positive or negative impact on housing affordability.

That’s it! If you have relevant experience to add from elsewhere in the country or suggestions for how to make this description clearer or more accurate, please post a comment below.

About Eli Spevak

Community housing developer

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