Do you know the zoning of the property? There are some R2 lots in the Red Morton area. What is the lot size? Some bigger R1 lots can qualify for a cottage or second unit. You are astute in understanding the City will require you to replace and provide off-street covered parking. If you ever look at a property with a converted garage and no carport, there is a good chance the conversion was done without permit.
My sense is that without knowing the property I would lean against creating the 2nd unit. The Red Morton area of Redwood City seems to top out at a little over $1M where the typical 3/2 might be $850K to $900K so I would look closely before putting a lot of money into the property and perhaps overbuilding for the area.