Will Downtowns Go From Offices to Apartments?

Are we about to see the large-scale conversion of office space to residential units? Has the growing work-from-home (WFH) movement made downtown office towers obsolete?

Big cities are known by their distinctive skylines, the profiles that make each one unique. You can tell the difference between New York and San Francisco and just about every metro area at a glance.

These massive commercial corridors include both office and residential towers. While residential values have soared during the past two years, office structures have been largely emptied as a result of the pandemic and the wildly-popular work-from-home trend.

Covid changed everything

At the start of the pandemic, with a strange and unknown virus on the loose, many businesses went to distributed working plans. Instead of corridors, commuting, and conference rooms, companies were now held together by Internet connections and Zoom meetings. Major traffic arteries became wide open corridors and pollution levels dropped. Many companies shifted work locations with great speed – Goldman Sachs was able to quickly move 98% of its workforce to remote locations, according to CNBC.

Meanwhile, looming in the background were huge numbers of largely-empty office towers, facilities rented at great cost. As a result, nearby small businesses suddenly had no customers. Real estate investors of every size were directly hurt by Covid.

“Covid-19 often attacks the heart,” said Washington Post columnist Megan McArdle, “and that’s where it has struck America’s cities: right in the central business districts. In many residential suburbs, things look almost normal. But in the deserted downtowns, it feels as though you’d stumbled upon the cemetery where nondescript office towers go to die.”

McArdle adds that “a typical restaurant in Manhattan’s Midtown of course served tourists, as well as suburbanites coming into the city for a special occasion. But much of their business came from people in the surrounding offices: power breakfasts, working lunches, happy hours, retirement dinners. If too many of those people stay home, those restaurants’ balance sheets tip from black to red.”

And the same is true not only for restaurants, but for any number of other downtown businesses that depend on commercial offices and their inhabitants for daily revenue.

Office use shrank

Kastle Systems tracks keycard, fob, and app access usage for 2,600 buildings and 41,000 businesses. The pandemic’s impact on commercial properties in 10 major metro areas can be tracked from its Kastle Back to Work Barometer.

• Office usage stood at 99% for the week of March 4th, 2020.
• And then, in a few weeks, usage dropped to a pandemic low of 14.6% by mid-April 2020, a stunning decline. In New York, the usage level fell to 4.3%.
• For the week of February 2nd, 2022, usage reached 33% nationwide with the Austin metro area at 47.7%

The latest figures show a solid return to work, but measured against past usage there’s a long way to go.

Returning to work

Will workers return to formal office settings as the pandemic ebbs? The answer is mixed.

Offices are hugely productive, the very reason for their existence. Cities keep growing because they’re centers of commerce and culture. And, no doubt, many business leaders want employees – or at least most employees – back to the office. As JP Morgan Chase CEO Jamie Dimon told CNBC last May, “I’m about to cancel all my Zoom meetings, I’m done with it.”

WFH – a new thing

What workers think about the WFH movement is mixed.

Morning Consult reported that 75% of the workers surveyed in early February said they would like to return to work as soon as it’s safe.

But, a work-from-home study by Owl Labs found that “productivity didn’t suffer, with 90% of respondents that worked from home during the pandemic saying they were as productive — or more — working remotely when compared to the office. Eighty-four percent of respondents also shared that working remotely after the pandemic would make them happier, with many even willing to take a pay cut.”

So which is it? Do workers want to go back to the office or not?

“The desire to work from home and the requirement to work from a formal office setting are conflicting trends,” said Rick Sharga, RealtyTrac‘s Executive Vice President. “The likely result is compromise between those who need money and those who need workers. More employees will work from home, up from the 5% or so who were out of the office full-time before the pandemic. Flexible – or hybrid – work schedules will become more common. This also means that office settings will increasingly evolve to include more square footage per worker, additional shared facilities.”

What about the office towers?

The idea that formal office settings will generally be replaced by home offices in distant and romantic locations seems implausible.

Look at the big-five tech companies – Alphabet (Google), Amazon, Apple, Meta (Facebook), and Microsoft. They have 96.4 million sq. ft. of office space between them, according to research provided by CoStar.

Nearly a third of the space used by the big-five companies is owned outright. Given the vast amounts of data held by these firms, is it likely that they would spend billions of dollars for space they’re not going to use?

Alternatively, selected office usage may decline. The WFH concept has been largely proven in terms of productivity, but not necessarily as a preferred option by business leaders. Moreover, many workers would actually like to return to work, as Morning Consult reported.

Commercial office conversions

The best office buildings in town will likely be filled, but older structures may empty out. What to do with expensive real estate in prime locations and continue property tax collections? How to help small-scale businesses in city centers? The answer for some owners and builders will be residential conversions.

There is now proposed legislation on Capitol Hill to make office-to-residential conversions more attractive. If passed, the Revitalizing Downtowns Act (S. 2511), will create a conversion tax credit for buildings that meet certain standards.

First, they must be at least 25 years old.

Second, 20% or more of the residential units must be both rent-restricted and occupied by individuals with limited incomes.

Third, qualifying buildings can get an office conversion tax credit equal to 20% of conversion costs.

Will S. 2511 pass? It’s hard to say, but it is the type of legislation that might generate bipartisan support, in part because there’s an obvious shortage of residential units.

But that’s not all. Conversions will largely be located in downtown centers, places where more residential units will mean more traffic for local businesses and additional revenues. Renovations are also much better for tax collections than empty buildings, something big-city mayors and local congressional representatives from both parties will not want to ignore.