Conversion-Inducing Tax Cut Heads To San Francisco Voters, Along With Housing Bond

A measure on Tuesday’s ballot is meant to address the familiar and formidable problems of affordable housing and vacant office towers in downtown San Francisco, but the efficacy of the initiative remains an open question with just days left to vote.

Proposition C would remove the city’s transfer tax on office buildings purchased for residential conversion, saving buyers up to 6% of their purchase price.

This exemption already applies to some affordable housing projects but would expand to include any residential conversion. The initiative, proposed by Mayor London Breed, has raised questions among development and housing advocates alike about how much development the measure will actually spur — and why building owners should be given tax breaks without strings attached.

Developers and property owners are supportive of the measure, but they are also quick to acknowledge that much more needs to be done beyond eliminating the transfer tax on office-to-residential conversions.

“It’s going to take an even more dramatic investment to make this financially feasible,” said David Harrison, associate director of advocacy at BOMA San Francisco. “But I think [Proposition C] is worth doing because of the housing situation.”

The housing situation in San Francisco is daunting for wide swaths of the population, and the city must permit 82,000 new units by 2031 to meet state-mandated housing goals.

If the measure passes, subsequent decisions about the tax will be in the hands of the Board of Supervisors, not voters.

Office-to-residential conversions aren't feasible in most buildings in downtown San Francisco, due to necessary elements to meet housing codes. Developers in the city and across the country have called for more incentives to make conversions work.

“The sweet spot are smaller and older buildings,” said Charles Bloszies, a local principal architect at the Office of Charles Bloszies.

Fringe areas outside of the Financial District, like Jackson Square, North Beach and SoMa, have buildings that are suited to these kinds of conversions and have the desirable location and neighborhood amenities, he added.

Bloszies’ firm has worked on dozens of conversions, and with the office vacancy rate as high as it is, he said he is surprised the phone isn’t ringing off the hook. 

The tax exemption isn't likely to be used on tall office buildings in the heart of the Financial District, where vacancy recently hit 35%. Instead, older Class-B and C buildings along Market Street, South of Market and in Union Square are more attractive to developers and architects for conversions.

Should the measure pass, these conversions won’t become commonplace or wildly popular, however, as they are expensive. Bloszie said his firm often hears that the economic conditions and math don’t add up to do most conversions.

Forge Development, which recently made news for its plans to convert 785 Market St. to housing, knows the challenges of financing these projects firsthand. The firm went to 100 of the top lenders nationwide and got just two responses to fund construction.

“Nobody in the financial markets will take a risk on San Francisco right now,” Forge Development founder Richard Hannum said.

But Proposition C alone won't move the needle, he said. Other regulations and uncertainties slow conversions and make them financially unattractive.

“There’s a litany of required upgrades,” Hannum said of the city’s requirements for conversions.

The number of office buildings that could be converted to housing is limited.

A SPUR analysis of 25 office buildings in downtown San Francisco found that about 10 of them would make good candidates for conversion, or about 40% of the buildings evaluated. A Moody’s analysis found that just 13% of the offices in San Francisco are suitable for conversion to housing. 

A report from the city’s Office of the Controller, which was released last month after ballots had been mailed, found that converting office buildings to residential isn't financially feasible unless the public sector heavily subsidizes it. But the “opportunity cost — in the form of lost office space — is likely to lead to a net loss to the city’s economy,” the report says.

The city’s chief economist recommends zoning changes instead of the tax break to incentivize housing, as “the proposed incentive is likely too small to close the feasibility gap.”

Another ballot measure would authorize bonds to build and sustain affordable housing in the city, the first such measure city leaders have put before voters since 2019.

Proposition A has broad political support from the mayor’s office and the Board of Supervisors. Its passage would secure $300M in funding and mean 1,400 affordable housing units will be built or upgraded and renovated. 

Building owners and developers point to Propositions A and C as ways to help the city meet its mandated housing goals from the state of California. They also argue that vacant buildings becoming housing means more density and foot traffic downtown, something particularly lacking in the Financial District.

“San Francisco needs more housing. It doesn’t need empty office buildings that sit empty for decades,” said Joe Arellano, a spokesperson for Propositions A and C. “We can’t fall backwards into a situation that allows downtown to fail.”

There is behind-the-scenes political concern that Proposition A won’t receive the two-thirds vote it needs, although developers and building owners are broadly supportive of this measure.

“We have to have housing in the city for everybody so they have the ability to easily access downtown, so we’re supportive of low-income and affordable housing and supportive of building more market-rate housing,” BOMA San Francisco's Harrison said. 

The affordable housing bond that voters are being asked to pass this year is smaller than the bonds on the 2019 ballot. That $600M, five-year bond led to 3,100 units and homes being developed or under construction now, Arellano said.

“You need housing of all income levels and types, and that’s where the city is right now,” Arellano said.

Breed is also up for reelection, and so far her reelection bid is far from certain, polling from the San Francisco Chronicle found. She supports Propositions A and C.

The Council of Community Housing Organizations opposes Proposition C, calling it a “tax break for billionaires.”

The council argues that the measure will hurt affordable housing efforts by depleting funding from the transfer tax, which could be used on such projects. The council also opposes giving the Board of Supervisors authority to change the transfer tax, shifting that power away from voters.

The transfer tax goes to the city’s general fund, and the city expects a $728M budget deficit in the next two fiscal years. 

Beyond the ballot, developers are counting on city leaders to do more to ease the regulatory burden of adding housing to the city. Hannum, while supporting Proposition C, is focused on other parts of the city’s regulations and codes that make such conversions costly. 

“We need to reconsider how we burden and tax the delivery of housing in order to restart the engine of progress,” Hannum said. “It’s off. It’s not stalled, it’s just off.”

The silver lining is that the conversations are happening with city leaders and stakeholders like PG&E, he said. There is a potential shift in progress.

“I’ve never experienced a more collegial engagement to find an answer from any administration in the last 40 years,” he said.