As the US grapples with a massive housing shortage, one possible solution is playing out in California right now — and the state may have struck gold.

Over the past two years, tiny homes, known as accessory dwelling units, or ADUs, have filled backyards from San Jose to San Diego after state lawmakers began breaking down barriers for homeowners to build on their limited acreage. Single-family-zoning rules — often cited as a contributor to the affordable homes shortage — were loosened under a series of laws enacted as the pandemic was exacerbating the housing crisis.

Homeowners were primed for the opportunity. One Bay Area native was able to raise her children near her family by building a $325,000 unit in her parents’ San Jose backyard. A San Diego landlord added a two-bedroom unit in his backyard, helping to ease the rental shortage for students in the area. They all have the trappings of a regular home — kitchens, sleeping areas, and running water — just downsized to as little as 150 square feet.

California approved permits on 22,663 ADUs in 2021, up from 8,905 in 2018, according to an analysis of state data by the Terner Center for Housing Innovation at the University of California, Berkeley. Overall, the state paved the way for at least 63,456 ADUs to be built between 2018 and 2021, the Terner Center report showed.

While the increase in ADUs over the past few years has been significant, people aren’t necessarily seeing lower housing prices or rents, Selma Hepp, the chief economist at CoreLogic, told Insider. The new ADUs have barely put a dent in the state’s shortage of some 2 million homes, she said, though she’s doing her part by building one of her own on her Burbank property.

“I think it’s going to help affordability,” Hepp said of the state’s promotion of ADUs. “But I think that we’re still a ways away” from where housing supply is expanded enough to increase affordability, she added.

While California’s ADU revolution is in its nascent phase, it offers a glimpse into how other states could implement their own affordable-housing strategies. Oregon, Maine, and Nebraska, as well as cities like Miami, have enacted laws similar to California’s. Other states — including New York and Washington— are considering ADU legislation, too.

Dire shortage

Advocates of higher-density building have a big tailwind: Housing affordability is waning, and fast.

The average American household — which brings in about $70,784 each year, according to the US Census — can’t afford to buy a home and is struggling to keep up with rising rents. For a typical US home, with a median price of $383,460 in January, monthly housing costs would be $2,260 if the buyer put 5% down and took out a 30-year mortgage at 6.5%, according to Redfin data and Insider’s mortgage calculator.

Meanwhile, median rent was $1,942 in January and rising year over year, according to Rent.com.

That means that the typical renter would need to make at least $77,680 to avoid the threat of becoming house poor —  which is when people spend more than 30% of their income on housing costs. For a typical homebuyer to meet that measure of financial strength, they would need to earn $90,400.

Behind the rising costs is a severely undersupplied national housing market, which by a Fannie Mae estimate is short about 3.8 million homes. Addressing that supply-demand imbalance would help alleviate the affordability crisis, economists say, and nowhere is that more important than in California, where the shortage of homes accounts for half of the national total.

New territory

To attempt to solve the crisis, California lawmakers agreed on rules that made it easier for urban homeowners to build on their land, including the California HOME Act, which lets homeowners build up to four additional units on their existing lots. Only individual homeowners are allowed to do this, not private companies.

There’s been opposition to ADUs from homeowners worried about the density of their neighborhoods and sometimes the aesthetics of the structures. Shain Haug, the president of a neighborhood community council in San Diego, complained to SanDiegoNews.com that single-family homeowners shouldn’t be burdened with fixing problems that he said were due to poor urban planning or supporting “growth for the sake of growth.”

He also decried “giving our communities over to the construction industry.”

To be sure, the state laws are no panacea. Even though ADU construction is legal at the state level, homeowners still have to comply with local ordinances — some of which make it very hard to build. And building an ADU usually costs between $100,000 and $300,000, which is financially prohibitive for many people.

For example, Hepp — a person who follows the housing market professionally — detailed the long and arduous process she had to endure when building her ADU.  Zoning ordinances in Burbank seemed opaque to her and the real estate agents she consulted, and she couldn’t get any “real answers” from local officials or real-estate experts, she said.

Despite her struggles, Hepp predicted that if the state keeps throwing its weight behind the issue and educates people about how they can build tiny homes, a more meaningful wave of building will ensue. Ultimately, the housing shortage could be alleviated, she said.

A tiny-home gold rush

California homeowners aren’t the only ones making money from the new laws.

From the Gold Rush of 1849 to California’s 21st-century rise as the technology capital of the world, ambitious entrepreneurs aiming for social and economic transformation have been a part of the state’s DNA. Tiny homes as a solution to the housing crisis is no different.

Venture capitalists have poured millions into startups that help to permit, manufacture, and install ADUs over the past few years.

Villa, a San Francisco-based company that has built hundreds of prefabricated ADUs, received $15 million from Atomic, an investment firm led by Jack Abraham, the founder of the $2 billion telehealth company Him & Hers, in August 2021. Adobu, another Bay Area company that builds tiny homes in California and Washington, has raised $25 million since 2018 from investors like Redfin CEO Glenn Kelman.

Both companies are looking to expand to other states.

“The way California goes, so will the rest of the nation,” said James Connolly, Villa’s cofounder. “I feel really bullish about not just the company, but also our ability to make an impact on the broader housing crisis.”

This article was written by Kelsey Neubauer from Business Insider and was legally licensed through the Industry Dive Content Marketplace. Please direct all licensing questions to [email protected].