Harvest Real Estate Law
Firm Insights

New Regulations Promoting Conversion of Obsolete Office Buildings Create Opportunities for Developers

By Brandt Hollander, Partner

Across the country, office occupancy has remained stubbornly low following the Covid-19 pandemic, while at the same time, apartment rents have exploded to record highs.  This dual crisis has led to calls for the redevelopment of vacant office buildings for apartment use.  While at first blush this appears to be a simple solution to both of these trends, the logistical and legal challenges associated with the conversion of office buildings to multifamily use mean that, at present, conversion is only a viable option for a small subset of existing office buildings – making the repositioning of obsolete office buildings into new urban housing appear to be a niche opportunity, rather than a broad market relocation.  However, across the country, municipalities are in various stages of enacting new legislation aimed at ameliorating the legal challenges associated with the repositioning of these obsolete buildings.  While many of these legislative initiatives are in their early stages, drawing from historical examples, the potential impact this new legislation could prove to be transformational for cities across the country.  Developers willing and able to navigate this evolving legislative environment may yet stand to capitalize on a significant opportunity created by these changing regulations.

According to a recent report from Cushman & Wakefield, the national office vacancy rate could grow to 18% by 2030 – a 55% increase from the 12% vacancy rate of 2019.  At the same time, Moody's found that in the fourth quarter of 2022, the national average rent-to-income ratio (RTI) reached 30% - the standard for being considered "rent burdened" – for the first time since tracking the issue for 20 years.  The specter of empty and underutilized office buildings dragging down the once-thriving economic ecosystems built to cater to the needs of office workers – and the attendant loss of property tax revenue – has led to calls from the business and political communities for the repositioning of underutilized office buildings, while at the same time renters and politicians alike have called for the introduction of new housing to offset significant recent increases in apartment rents.  The expectation has been that converting obsolete office building to multifamily use would achieve the dual goals of putting presently underutilized office buildings to productive use while also creating much needed residential units to help alleviate the strain of rising rental prices.

Converting office buildings for apartment use is often easier said than done, as has been reported in many sources, including an excellent piece in The New York Times.  Many physical characteristics of a typical office building – large floor plates, inoperable windows, MEP systems grouped in a central core – are undesirable in a residential context.  After studying more than 300 buildings in 25 cities across North America, Gensler issued a report concluding that only 30% of the buildings studied would be suitable candidates for conversion, based on a variety of factors. 

In addition to addressing the physical dissimilarities between office and multifamily properties, developers seeking to redevelop obsolete office buildings also face a variety of legal hurdles, including: (i) compliance with zoning codes for buildings now intended for a different use from that for which they were originally constructed; (ii) compliance with building codes which have distinct requirements for multifamily and office buildings and which have, in many instances, been updated since these buildings were first built; and (iii) terminating or relocating existing office tenants, many of whom have long-term leases often with additional extension options allowing remaining tenants to control their spaces in otherwise vacant buildings for years to come.

These legal requirements can create a number of impediments for prospective developers, including the potential need to modify development plans to comply with applicable code.  These requirements can force developers to incorporate modifications to new building design – including additional structural reinforcement, seismic upgrades, improvements to building envelope and mechanical systems to comply with updated environmental requirements, securing additional parking to comply with higher residential requirements, and even modernizing or relocating elevators.  In many instances, would-be developers have found that the inclusion of these elements into planned redevelopments renders the work cost prohibitive. 

The good news is that municipalities across the country are moving to implement plans that would ameliorate these legal hurdles and promote the conversion of office buildings for multifamily use.

In the past, similar plans have had dramatic impacts and spurred significant development.  In the 1990s, New York passed the 421-g tax incentive program encouraging the conversion of older buildings in lower Manhattan into apartment units.  This program ultimately resulted in the conversion of nearly 13 million square feet – or 13% of the then existing office supply – into multifamily use between 1995 and 2006.  Similarly, in 1999, Los Angeles passed the Adaptive Reuse Ordinance which, over the course of approximately 15 years, helped spur the creation of nearly 20,000 new residential units in downtown Los Angeles by easing zoning and building code requirements for building conversions.

At present, municipalities across the country are in the process of rolling out similar legislation.  A few notable examples of proposed or enacted legislation include:

  • In California, a bill known as the "Office to Housing Conversion Act" has been introduced in the state assembly which would expedite the permitting process and ease zoning requirements for office conversions.  In San Francisco, new measures have been introduced which would facilitate the conversion of empty office space into housing by limiting certain fees otherwise imposed on residential development and streamlining the permitting and review process by amending certain planning code requirements.
  • In New York, Mayor Eric Adams has called for an area stretching from Chelsea through the Garment District to be rezoned to allow for multifamily use.  He has also called for other changes to be made to clear the way for the redevelopment of dated office properties and construction of additional housing units.
  • Washington D.C. has introduced a program to provide tax abatements for office conversions.
  • Chicago is implementing a plan that would use office conversions to create 1,000 housing units, 30% of them affordable.
  • The Boston Planning & Development Agency has retained a consultant to develop a strategy to convert empty downtown office buildings into multifamily or lab use.

Time will tell which of these proposals will ultimately come to pass and what specific relief they will provide.  Based on (i) the dramatic recent change in office use patterns coupled with steadily increasing apartment rents, (ii) the existing political will to see obsolete office space be redeveloped and new housing created and (iii) the historical results of similar initiatives, conditions may be ripe for new legislation that will lead to significant, city-changing redevelopment opportunities for those developers willing to undertake these complicated projects and capitalize on the opportunities presented by a rapidly evolving regulatory environment.