The challenge of converting office space into housing By David Gargaro
Major Canadian cities are facing a dual economic challenge: a shortage of affordable housing and an increase in office building vacancies. There is not enough rental housing stock, and no way to quickly build inventory, to keep up with demand. The growing work-from-home movement means there is no foreseeable end in sight to underoccupied office buildings, resulting in lost income for building owners and millions in office-backed loans at risk of going into default. Some housing experts have proposed a solution to address both problems: convert underperforming and vacant office buildings into multi-family residential properties. Adaptive reuse of office buildings would create cash flow for property owners and address the housing shortage. However, this is much easier said than done.
Conversion costs Building a new condominium or purpose-built rental property involves relatively set costs. Barring unforeseen circumstances or unexpected increases in expenses, the developer knows what it will cost to build. While development costs vary across Canada, it can cost $250 to $400 per square foot to build a new multi-family residential property. However, construction costs are always increasing and high interest rates make it difficult to budget accordingly. An office building conversion involves significant changes to the infrastructure. Adaptive reuse of office towers will have both expected and unexpected costs. You don’t know what’s behind the walls until they’re demolished. Expenses can quickly add up and make the project financially unviable based on initial projections. Some experts believe once an office conversion passes $200 to $300 per square foot, it stops making financial sense as an affordable rental property. Conversion costs can easily exceed $400 per square foot, which can negatively impact return on investment and strain finances. The developer will have to increase the per-unit purchase cost or rental rate to cover these higher costs. If the building owner has a mortgage on the office tower, they will have to consider whether
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it is financially viable to reinvest in conversion. A buyer would have to weigh the cost of the purchase against return on investment. They might be able to take advantage of financial incentives for improving the building’s environmental footprint and energy performance, but the circumstances have to be ideal.
Obstacles to adaptive reuse Many factors besides building age and floor plate size help to determine the feasibility of converting office buildings. Some determinants include costs, location, specific building elements, and neighbourhood amenities. These factors significantly reduce the number of office buildings that would be eligible or desirable for conversion. "In Calgary, there were 82 buildings consisting of 22 million square feet built between 1975 and 1985. This was such an intense building spree that underwriting these buildings today for conversion purposes requires specific attention on building systems and structural capacity. Some of these buildings were built too quickly and often to minimum standards. In one building, the floors were uneven and the window sizes were not ideal, so it made more sense to tear it down,” said Walsh Mannas, Principal, Avison Young.
Although work-from-home is likely here to stay, it does not mean all offices will eventually be empty. Some buildings have vacancy rates below 50 per cent, but others are nearly full. Even if a building is ideal for conversion, you will have to negotiate the conclusion of leases. Class A buildings are still in higher demand and have lower vacancy rates than Class B and Class C buildings. Many businesses want people to be on-site. Vacancy rates fluctuate over time, as do different work-related trends (e.g., open plan vs. closed office, shared desks vs. dedicated spaces).
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You can’t change where a building is located. Many office buildings within the downtown core are found in clusters. They were not designed to cater to residents’ needs. Office tower neighbourhoods tend to lack certain amenities, like schools, parks, community centres, entertainment, and shopping. To draw potential homeowners or tenants, you would need to redevelop the surrounding area to provide desirable amenities, which is a significant, longterm undertaking. However, this provides an opportunity to create a vibrant, multi-purpose community within the downtown core. Zoning laws are also an issue. In most provinces, you can’t simply convert a commercial property into a residential property if it has strictly commercial zoning. As per municipal rules, zoning would have to change. Some cities’ policies regarding office stock replacement create barriers to converting office buildings for residential use. Different levels of government can simplify the process of converting office towers into residential properties, and there seems to be support from different municipal governments to do so. But it will take time to change the zoning of a building or neighbourhood to support adaptive reuse. “In addition to local zoning requirements, the building must satisfy land use restrictions, setback requirements, and other restrictions,” said Greg Devine, Director, Business Development & Marketing – Egis, formerly McIntosh Perry. “You also need to plan for adequate parking and accessibility, as there will be a new use for the building and expected occupancy.”
Purpose-built office buildings tend to have different floor plans and layouts than apartment buildings. While a large floor plate means more space for housing units, it can also make it more challenging to undergo adaptive reuse. Residential buildings require more interior walls to separate individual units, as well as their own kitchens and bathrooms. And since you’re working with a fixed floor plate, you are limited in the size and layout of individual units. Office and residential buildings have different mechanical, electrical, and plumbing requirements, loading and parking setups, window-to-wall ratios, and building envelopes. Almost every element in an office building will require architectural and engineering redesign. The building will need a thorough structural assessment of the existing frame to determine whether it could support the proposed changes. Walls, roofs, windows, doors, and foundations must be changed to support the conversion to a residential property. The plumbing infrastructure, including water supply, drainage system, and plumbing fixtures, will likely require upgrading. HVAC systems will need to be upgraded or replaced to meet current energy codes, as well as address air quality and ventilation requirements to fit the change in occupancy and use. “Mechanical and electrical systems are very important,” said Mannas. “Ideally, an older building will have been upgraded at some point. Electrical systems will need to be assessed to ensure they can handle the new power demands.”
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Some office buildings are ripe for conversion for residential use. For example, owners of older properties can apply for government incentives to fund energy-efficient upgrades. Some Class C buildings, which would have low ceilings when used as an office, can create desirable 11-foot-high ceilings when ducts and lighting are removed.
What about tearing it down? Demolishing an office building and replacing it with a residential development is an option, particularly for older properties. In some cases, it would cost less to build from scratch. However, conversion takes less time than demolishing an existing office tower and developing a new residential property. Also, demolition is not always the solution. Building owners are often reluctant to lose the sunk costs from demolishing an office tower, and might want to lower rents, find new tenants or adapt it for other uses. For example, it might make more sense to convert office space to storage units or education use. Plus, new construction has a high environmental cost, as concrete work is a carbon-intensive process. “Both new construction and adaptive reuse of existing properties will require excess soils management,” said Devine. “Soil that has been dug up must be moved on-site because it can’t or won’t be reused at the site. Some projects require additional planning requirements or registration on the RPRA soils registry.”
What are the numbers? According to CBRE Canada, as of the third quarter of 2023, Canada’s national office vacancy rate is 18.2 per cent. Rates are steady in most major downtown cores. Office vacancy rates in major Canadian cities range from 30.9 per cent in Calgary down to 11.8 per cent in Vancouver (Toronto is in the middle at 15.8 per cent). Avison Young research completed in Spring 2023 found that 34 per cent of office buildings in 14 major North American markets have potential for conversion. Up to 9,000 office buildings could be converted for residential use, including about
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923 in Toronto, 611 in Montreal, 548 in Metro Vancouver, and 521 in Calgary. The study used two key criteria to identify buildings for long-term conversion: they were built prior to 1990 and had floor plates below 15,000 square feet. Since the beginning of 2022, 33 office buildings across Canada have been removed from inventory, with most converted for residential use, as per CBRE. Calgary has had success in office-to-residential conversions due to its Downtown Calgary Development Incentive Program, which provides up to $75 per square foot in financial incentives. To date, there are 17 projects either completed or scheduled, creating more than 2,300 new homes for residents in downtown Calgary. Two of those projects are the Dominion Centre (Alston Properties, 132 homes) and Palliser One (Aspen Properties, 219 homes), both of which include affordable housing. Ottawa has also had successful office-toresidential conversions. The City’s Planning Committee approved a set of recommendations to facilitate office-to-residential conversions to revitalize underused office building space, including waiving the planning application fee. CLV Development Inc. and InterRent recently converted a former federal office building (now called the Slayte) into a 158-unit rental property. The conversion took two years, as well as 18 months of planning.
Conclusion Adaptive reuse of underused office buildings can address both the housing crisis and low office vacancy rates. However, it’s easier said than done. There is a lot of red tape to cut through at different levels of government. Removing these barriers and providing financial incentives to developers will help to create more housing. So will the federal government’s removal of the GST on rental buildings, provided it includes conversions. Office-to-residential conversion can help to address the affordable housing shortage, but it will require creativity, collaboration, and resources from all interested parties.