Could Vacant Offices Present the Next Major Opportunity for Residential Investors?

Are city office buildings falling into disuse as zombie shopping malls do, or can they be reinvigorated into residential apartments and condos?

Developers, city planners, banks, economists and commercial landlords are unsure how best to answer this question. What’s clear, however, is that commercial office space in major cities is in an irreversible death spiral or “urban doom loop,” according to The New York Times, due to remote working and rising interest rates limiting options for building owners – with American cities’ future resting on finding an effective solution for such woes.

Prices have seen substantial decreases nationwide since 2008, often by 50% or more. This has had a devastating effect on city budgets by decreasing tax revenue; negatively affecting every aspect of upkeep and efficiency within them as well as on surrounding businesses like restaurants, hotels, and entertainment venues that provide them services.

According to an article in The New York Times, a professor from New York University’s Stern School of Business estimated that the national office market lost $664.1 billion between 2019 and 2022, which caused businesses and inhabitants alike to leave, further diminishing tax revenue while simultaneously increasing homelessness.

Offices to Apartments: Is It Feasible? Converting vacant office buildings into housing is often touted as a solution to urban housing shortages; but is that truly achievable? Conversion requires more than simply emptying desks and installing beds and baths – many factors must come together for it to make sense.

At first glance, it may seem manageable; however, as with many commercial real estate issues it can become more complex over time.

As an outstanding example of such an endeavor, look no further than 160 Water Street in New York’s Financial District; once home to an office building built during the 1970s but recently converted into Pearl House: an amenity-rich 600-unit apartment building.

Obstacles
Money and sustainability can present formidable barriers when it comes to making conversions difficult. According to economist Stijn Van Nieuwerburgh, professor of real estate at New York’s Columbia Business School, only 10% to 15% of office buildings nationwide can be converted due to heavy carbon footprints or difficulty installing enough plumbing, lighting, or air circulation systems – so while it may not be impossible, it certainly comes at a high price tag.

As was the case for Pearl House, rents would need to be high in order to cover construction costs – meaning more luxurious apartments than affordable units in most cities.

City Living: A New Reality
Cities as we know them today–hubs of business–are most likely shifting. While some companies require workers to return to the office, others find remote working to be far cheaper. Furthermore, retailers have discovered it may be less costly to opt for online sales rather than expensive stores to gain customer loyalty and boost revenues.

So what are cities left with for enjoyment and socialization? Entertainment, shows, restaurants, clubs and socializing. According to The Wall Street Journal, American cities are starting to thrive again due to tourism uptick but only when offices aren’t nearby.

With prices of office buildings drastically discounted, investors see an opportunity for lucrative buyout deals at fire-sale prices. If demand exists in former downtown office areas of major American cities for living space, bold developers may start renovating newer buildings or demolishing older ones to meet this need.

One key part of making cities attractive places again is creating attractive places to live. One way of doing that could be creating a work/life culture where workers walk to work instead of commute. Offices don’t appear empty; rather they just may not be full yet – not everyone can work from home anyway.

Hybrid work models provide an attractive middle ground between workers who have become accustomed to wearing comfortable clothes while doing laundry and companies demanding face time and traditional business practices in the office. This approach has become popular across cities nationwide, offering incentives to developers for building more affordable housing units.

Over the last 20 years, nearly 80 New York City office buildings have been converted to residences by CBRE; this transformation of Manhattan’s Financial District into a family-friendly neighborhood.

From 2010-2021, nationally, 222 office buildings were converted to residential space across the U.S. Philadelphia saw the highest conversion rate while Chicago followed behind it. New York will soon follow with conversions that include work/life models featuring office spaces beneath luxury residences; additional conversions are slated for Philadelphia, Cleveland, Los Angeles and Washington D.C.

Cash flow issues in luxury condos can be tricky. Many investors with deep pockets use them as investments for safekeeping purposes rather than managing tenants themselves, leaving units unoccupied instead.

However, many buildings now accommodate short and mid-term rentals models, including Airbnbs in Miami. According to Condo Blackbook research from the Chamber of Commerce as quoted on Condo Blackbook’s report of Airbnb rental rates by large cities – Miami was listed 10th highest among them with an average daily rate of $290 – while smaller pockets such as Miami Beach ($426) Key Biscayne ($571) and Fort Lauderdale (at around 297) boast even higher average daily rates than this national figure.

Miami condo prices may not be affordable due to global interest in visiting the city; however, office-to-condominium conversions elsewhere might prove more cost effective, with developers hoping for early sales by doing early business conversions. Realizing developers’ fear of empty buildings, Airbnb and similar short-term rental platforms have specifically targeted them by offering joint partnerships nationwide – apartment rentals being one obvious target; but savvy investors interested in condo purchases may use similar tactics as part of an overall passive income strategy.

Final Thoughts
The pandemic has drastically altered office space usage in major cities. When combined with technology such as Zoom and Google Meet, conventional office use was bound to change at some point – commuting costs combined with tangible productivity cost data accelerated this change rather than initiating it directly.

However, office space losses have coincided with chronic housing shortages; should cities encourage developers to convert empty offices into housing, it could provide an opportunity for both large investors and smaller investors.