How Empty Offices Become Apartments In The U.S.

Summary

The US faces a record high of 94 million square feet of vacant office space in Manhattan, prompting discussions on converting offices to residential units. While the idea seems promising, not all buildings are suitable for conversion due to legal, structural, and financial challenges. Cities like Washington D.C. and Philadelphia are leading the trend, offering incentives to developers. However, the converted apartments tend to be expensive, and the scale of conversion is not yet sufficient to significantly impact the housing market. The success of such projects depends on zoning laws, government policies, and market demand.

Takeaways

• 🏢 Manhattan currently has a record high of 94 million square feet of empty office space.
• 💼 Large investors face potential defaults in their office real estate portfolios due to the vacancies.
• 🏠 There's a significant challenge in finding affordable housing, prompting discussions about repurposing office spaces.
• 🔄 Converting office buildings to residential units is not straightforward due to various constraints and regulations.
• 📈 Only a small percentage of office buildings are suitable for conversion, with factors like age and layout playing crucial roles.
• 🏗️ Cities with older office buildings, like Washington D.C. and Philadelphia, are leading the conversion trend.
• 💡 'Remassing' is a technique used in conversions to improve the layout and functionality of the building for residential use.
• 💸 Converted apartments tend to be more expensive, which may not address the need for affordable housing.
• 🏙️ Zoning laws and regulations are a significant barrier to converting offices to residential spaces in many cities.
• 🏛️ Incentives like tax abatements can encourage developers to undertake office-to-residential conversions.
• 🌐 The scale of the housing shortage in the U.S. far exceeds the potential supply from office conversions alone.

Q & A

What is the current record for empty office space in Manhattan?

The current record for empty office space in Manhattan is 94,000,000 square feet.

Which major investors are facing defaults in their office portfolios?

Major investors like Blackstone and Brookfield are facing defaults in their office portfolios.

What opportunity do mayors see in the current real estate situation?

Mayors see an opportunity to change the mix of uses in downtown areas by converting unused office space into housing.

What is the percentage of New York stock that is convertible into residential units according to the script?

About 3% of the New York stock is seen as being convertible into residential units.

Why is converting every office building into apartments not as simple as it sounds?

Converting every office building into apartments is not simple because not every building is suitable for conversion, and some cities have laws making conversions difficult.

What are some of the challenges developers face when converting office buildings into apartments?

Challenges include ensuring access to light and air, dealing with plumbing and bathroom placement, and the high cost of conversion.

How does the technique of 'remassing' play a role in office-to-apartment conversions?

Remassing involves modifying the physical layout of a building to make it more suitable for residential use, such as creating additional windows or altering the shape of the building.

What is the typical rent for a single bedroom at the converted Poplar Building in Philadelphia?

The typical rent for a single bedroom at the Poplar Building in Philadelphia is $2,000 a month.

How does the zoning law in New York City affect the conversion of office buildings into residential units?

New York City's zoning laws currently make it difficult to convert office buildings into residential units, as commercial buildings are generally allowed to take up more space than residential ones.

What is the role of government policies in facilitating or hindering office-to-apartment conversions?

Government policies, such as zoning laws and tax incentives, can either facilitate or hinder office-to-apartment conversions by affecting the financial feasibility and regulatory requirements of such projects.

What is the estimated number of additional market-rate homes needed in the U.S. for low-income renters?

The U.S. needs about 7 million more market-rate homes at affordable price points for extremely low-income renters.

Outlines

00:00

🏢 Office to Housing Conversion Challenges

The script discusses the high vacancy rates in American offices, particularly in Manhattan, and the potential for converting these spaces into housing. It highlights the complexity of such conversions, as not all office buildings are suitable for residential use due to factors like layout and plumbing. The script also mentions the role of zoning laws and incentives in facilitating or hindering these conversions. Examples of successful conversions in cities like Washington, D.C., and Philadelphia are provided, emphasizing the need for creative solutions to maximize natural light and air access in the new apartments. The economic implications for developers and the potential impact on housing supply in cities are also discussed.

05:01

📉 High Office Vacancy Rates and Their Impact

This paragraph delves into the current high office vacancy rates, especially in New York, and the financial challenges this presents for investors. It discusses the historical context of these rates and the effects on the real estate market, including the decline in office REIT stocks. The script also touches on the broader implications for city centers, including the need for downtown revitalization and the impact on government finances and services. The role of zoning and policy in enabling or preventing office-to-residential conversions is explored, with examples from New York and Washington, D.C. The potential for such conversions to address housing shortages is also considered, along with the criticisms and support for policies that encourage these developments.

10:02

🏗️ The Scale of Housing Need and Policy Solutions

The final paragraph addresses the significant need for affordable housing in the U.S., particularly for low-income renters, and the gap between the demand and the supply of housing. It outlines the challenges in meeting this need, including the forecasted shortfall in new apartment units in New York by 2030. The script discusses the potential for office conversions to contribute to the housing stock, with projections for the creation of new units over the next decade. It also emphasizes the importance of policy changes, such as zoning reforms and tax incentives, in facilitating these conversions and addressing the housing crisis. The paragraph concludes by acknowledging the complexity of the issue and the need for comprehensive solutions.

Keywords

💡Office Space

Office space refers to the physical area designated for work activities in a commercial setting. In the video, it is highlighted that there is a significant amount of unused office space in Manhattan, which is a record high. This unused space presents an opportunity for conversion into housing, addressing the housing shortage while also dealing with the surplus of office space.

💡Conversion

Conversion in this context means the process of transforming office buildings into residential apartments. The video discusses the potential and challenges of converting unused office spaces into housing units to meet the demand for affordable living spaces. It mentions that not all office buildings are suitable for such conversions due to various factors like building layout and plumbing infrastructure.

💡Affordable Housing

Affordable housing refers to residential units that are priced at a level that is financially accessible to those with lower to moderate incomes. The video script points out the difficulty of finding affordable apartments in cities with high office vacancy rates. The idea of converting office spaces into housing is presented as a potential solution to increase the supply of affordable housing.

💡Zoning

Zoning is a land use regulation that dictates how land in a given area can be used. In the context of the video, zoning laws can either facilitate or hinder the conversion of office buildings into residential spaces. The video discusses how different cities have different zoning regulations, which can make or break the feasibility of such conversions.

💡Vacancy Rates

Vacancy rates indicate the percentage of unoccupied spaces in a given area, such as office buildings or apartments. The video mentions high vacancy rates in office spaces, particularly in Manhattan, which is a driving factor behind the exploration of converting these spaces into housing to better utilize the real estate.

💡Incentives

Incentives are financial or regulatory benefits offered by governments to encourage certain behaviors, such as the conversion of office buildings into housing. The video script discusses how some cities are considering incentives for developers to convert buildings, making it more economically viable and appealing.

💡Plumbing Infrastructure

Plumbing infrastructure refers to the systems within a building that supply water and dispose of wastewater. The video highlights the importance of this infrastructure in the context of apartment conversions, as every apartment requires access to plumbing. The existing layout of office buildings may not support the necessary plumbing for residential use, making conversion more challenging and costly.

💡Tax Abatement

Tax abatement is a temporary reduction or exemption from property taxes, often used by governments to encourage development or renovation. The video mentions Philadelphia's use of a ten-year tax abatement to stimulate downtown development, which can be particularly beneficial for developers undertaking office-to-apartment conversions.

💡Market Rate

Market rate refers to the price of a good or service as determined by the forces of supply and demand in a free market. In the context of the video, the discussion of market-rate homes addresses the need for more homes at affordable price points for low-income renters, indicating the gap between the cost of housing and what people can afford.

💡Mechanical Systems

Mechanical systems in a building include the heating, ventilation, and air conditioning (HVAC), as well as other mechanical equipment necessary for the operation of the building. The video script mentions that older office buildings often have outdated mechanical systems that take up significant space, which can be a challenge when converting these buildings into residential apartments.

💡Regulatory Hurdles

Regulatory hurdles are the legal and administrative obstacles that must be overcome to carry out a project or business activity. In the video, the discussion around converting offices to apartments includes the various regulatory hurdles that developers face, such as zoning laws and building codes, which can complicate or even prevent the conversion process.

Highlights

94 million square feet of office space in Manhattan is sitting empty, setting an all-time record.

Investors like Blackstone and Brookfield are facing defaults in their office portfolios.

Mayors are considering the conversion of unused office space to housing to address the affordable housing crisis.

Not every office building is suitable for conversion to apartments due to various factors.

Legal restrictions in some cities make office-to-apartment conversions difficult.

Only about 3% of New York's office stock is considered convertible to apartments.

Older office buildings are more likely to be converted due to their physical characteristics.

Some cities offer incentives to developers for converting buildings into housing.

The office conversion trend is most prominent in Washington, D.C., and Philadelphia.

The Poplar Building in Philadelphia is an example of a successful office-to-apartment conversion.

Challenges in office conversions include providing access to light and air, and reconfiguring plumbing and bathroom layouts.

Converted apartments tend to be more expensive, which may not address the affordable housing need.

In Philadelphia, the typical household can afford about $1,300 in rent, while converted apartments are priced higher.

The Atlantic, a converted office building, has units renting for $3,000 to $6,000 a month.

Office vacancy rates are at historical highs, with New York City experiencing around 12% to 13% vacancy.

Office REIT stocks have plummeted due to the slow return to in-person work.

Zoning laws are a significant barrier to office conversions in New York City.

Washington, D.C., has more flexible zoning laws that allow for easier office-to-residential conversions.

Tax abatements have incentivized downtown development in Philadelphia, but have primarily benefited high-value properties.

Critics argue that incentives for office conversions are unnecessary developer handouts.

The U.S. needs approximately 7 million more affordable homes for extremely low-income renters.

New York City forecasts a shortfall of 500,000 new apartment units needed by 2030.

The complexity of converting office buildings to housing is influenced by factors beyond the control of developers.

Transcripts

Many American offices are sitting empty.

New numbers showing 94,000,000ft² of empty

office space in Manhattan. That is an

all-time record.

Huge investors like Blackstone and Brookfield

are staring down defaults in their office

portfolios. Meanwhile, finding an affordable

apartment can feel impossible, which has a

lot of mayors talking.

We have a great opportunity to change the

mix of uses in the downtown.

Make it easier to convert unused office space to

housing.

So the thing about office to apartment conversions

is it sounds like a great idea.

Nobody's going to the office. We need more

housing supply. Why not just turn all the office

buildings into apartments? Not quite as

simple as it sounds.

Not every office building makes for a great

conversion. Not every conversion should be done.

Not every building should be converted.

In some cities, the laws are making conversions

difficult.

It was about 3% of the New York stock that we saw as

being convertible. And that took into account

differential of price between offices and

apartments, which has not actually diverged as much

as people may think.

But in places that have a lot of older office

buildings, there's a lot of conversion activity

happening.

Some big cities are looking at incentives for

developers who convert buildings into housing.

Nobody does things in the real estate world out of

the goodness of their heart. We have to find

ways to either require or incentivize these things

to happen.

What's stopping cities from converting more

offices into apartments?

And what challenges do developers face when

taking on these massive endeavors?

The office conversion trend is heating up in a

small group of cities led by Washington, D.C.

and Philadelphia.

We are right now in the Poplar Building in

Philadelphia. The building was built

approximately 100 years ago as offices and

manufacturing space for Strawbridge's Clothiers,

it was a giant department store in the last century.

This building is one of several conversions

conducted by the Post Brothers.

Physically, may have had some characteristics that

people might think would make for a tough

conversion. For instance, it's 100ft wide by 400ft

long.

That means lots of dark interior space.

The first consideration for a lot of these

buildings is about access to light and air.

That's why you see in some situations, real

creative redevelopment of these buildings where

people are driving a core into the middle of the

building to allow for additional windows in the

middle.

We took a building that was a perfect rectangle,

carved it into an E.

It's extremely complicated.

It's expensive.

You also have issues of where does the plumbing

lines run and it sounds silly, but you've got to

have a bathroom in every apartment or more than

one. And if you only have a single line of plumbing

or a single area of plumbing because think

about the offices. The bathrooms are only in one

part. It's going to be much more expensive to

convert that.

Builders call this technique remassing, and

it comes in different levels of intensity.

The Poplar in Philadelphia received a

light touch.

We have units that are 50ft deep as opposed to

the typical 25ft to 30ft deep.

We're able to make them work with things like what

are called borrowed light bedrooms or interior

bedrooms with a light and make really attractive

layouts, even though the floor plate might not seem

ideal.

Converted apartments tend to be pricey, much like

other real estate in the U.S.

In a hot market where there's a lot of demand

for housing and a lot of growth such as Denver or

San Francisco, that conversions could

potentially address maybe 10% of the housing need.

That still leaves the other 90%, and so there's

clearly a need to think bigger about how we're

going to build more housing.

Back in Philadelphia, the typical household makes

enough to afford about $1,300 in rent a month.

At the Poplar, single bedrooms can rent for

$2,000 a month.

Then there are projects like The Atlantic, where

units can rent for $3,000 to $6,000 a month.

It was a 1920s Beaux Arts Office building.

We finished the conversion in 2019.

There, for instance, we made a lot of structural

modifications.

As an office building, it had old mechanical systems

that took up basically the entire roof area.

When we're making those major structural

modifications, it's to allow for really high

quality amenities.

The Post Brothers' portfolio includes 12

buildings in the mid-Atlantic with plans

for expansion.

We're generally 96% occupied at all places,

and there might be 1 or 2 weeks where there's

downtime between the old tenant and the new tenant.

That's what we call frictional vacancy.

So that's really the only vacancy we have.

There's a very different story unfolding in office

districts.

Office vacancy rates are pretty high right now in

terms of historical context, the highest that

we ever recorded, and that was 19.3% vacancy

rate on average.

And that was a really stress period.

New York's hovering around 12%, 13% right now.

That's a bad sign for investors.

Some of the office REIT stocks have been really

hammered down over 50% just because of the

back-to-work, which is not going as well as some

might have expected.

How the streets feel in downtowns has changed a

lot in the past three years.

Not all of those changes are permanent.

It is necessary for downtown cities to address

that perception.

Though many offices are quiet, they're not

completely empty. That's a challenge for

developers.

I think the actual vacancy status or occupancy status

is really the single most important prerequisite for

conversion, much more so than, for instance, the

physical layout, the floor plates or the

systems or anything like that. If there's not a

clear path to emptying out the office tenants, it

really can't be converted to apartments.

When a developer looks for an office to convert,

they're looking for certain criteria.

For example, older buildings tend to make for

better conversions, but the typical U.S.

office is newer, bigger and not vacant enough to

be converted yet.

These are massive problems for city mayors.

We have millions of square feet of unused office

spaces that is right now ready to be converted into

housing. This just makes sense.

Office vacancies also affect government

finances. New York City offices generate roughly

$6 billion in taxes each year.

School districts will tend to rely heavily upon

property taxes.

The Transit Authorities like MTA in New York will

tend to rely a little bit more on property tax.

New York has experimented with office conversions in

the past. In the years after September 11th, a

wave of these projects rippled across lower

Manhattan.

We looked historically at going back to 2000 and the

number of conversions we were able to identify,

that did happen in New York, there's 50 something

of them. And it turned out to be about 2.5

conversions per year.

Well, there's no question that rule changes in lower

Manhattan help to spur new life in that part of

the city. And the result has been a success.

The residential population has tripled.

That created tens of thousands of new units and

really turned the battery and that surrounding area

into a residential neighborhood.

The government's policies can determine whether or

not these projects happen. In Manhattan,

commercial buildings generally can take up more

space than residential ones.

That condition and many others can change the

financial outlook of a project.

So the number one issue in New York is zoning.

Washington, D.C., for instance, they have kind

of very technocratically thought out the zoning and

you can effectively convert any office

building by right to residential. In New York,

that's very much not the case right now.

And unfortunately in New York, the zoning is

dictated at the state level and not the city

level. So there's been a lot of fights with New

York trying to get this changed. There's a lot of

people paying attention to the issue.

This is what it takes to get it done.

People are reading through 50,000 pieces of

paper to actually get housing built in our city.

If we have zoning rules and other impediments

which are keeping housing from being constructed,

shame on us.

Especially when you are so seriously seeing people

suffering in New York City and beyond.

In Philadelphia, a ten year tax abatement brought

more development downtown. This policy

saved home renovators and investors more than $1

billion in taxes.

But just over half of those breaks went to

owners of high value properties.

If it was a conversion, you basically were taxed

on the value of the shell that you bought, but not

any of the money you put into fixing it up.

So that's been hugely valuable.

Post Brothers has two major conversions in the

works in D.C., where the local government also

wants to increase tax breaks for downtown

developers.

That's Washington, I think that is frankly one of the

easier markets.

When you look at, for instance, the West Coast

markets, San Francisco has the highest GDP per

person of any metropolitan region in the

country. Office buildings there just four years ago

were valued north of $1,200 a foot.

Four years ago, it had the highest residential

rents in the country higher than Manhattan.

We don't think San Francisco is going

anywhere or there will be a huge opportunity set in

downtown San Francisco.

Critics of these policies say they're unnecessary

developer handouts.

Supporters hope the additional supply will

calm the housing markets in expensive major cities.

The U.S. needs about 7 million more market rate

homes at affordable price points for extremely

low-income renters.

The vast majority of people who are eligible to

receive housing assistance never receive

any. The scale of the problem is much bigger

than the resources that most governments at any

level are prepared to dedicate to it.

You know, there's 500,000 new apartment units needed

in New York by 2030.

In order to remain kind of an equilibrium between

supply and demand, we only forecast 38,000 more

per year going up to there, which will fall

well short of that 500,000.

And it's important that we enable this opportunity

for the sake of our commercial office stock

and for the opportunity to create new housing.

But we do project that over the next ten years we

could create 10,000 to 20,000 units of housing,

and that is our best projection.

But also we recognize that a lot of this is due

to factors, will relate to factors that are well

outside our control.

Questions like interest rates, questions like an

individual property owner's risk tolerance or

building layout.

So we know that there's real complexity here.

Our rules are in the way and we need to fix that.