Property Owners: It's Time to Consider Conversions

Although brighter times are on the horizon, the global COVID-19 pandemic has undeniably transformed the way in which people live and work. As a result, property owners have seen demand wane for certain, primarily commercial uses, in tandem with an increased demand for other types of uses. Despite concerns about people fleeing the city, housing is still a critical need for New Yorkers, while industrial uses, medical offices, technology, and hospital related uses have continued to expand. Additionally, some schools and child care facilities have sought out additional space to accommodate social distancing requirements. On the flip side, an annual report released by the Center for an Urban Future found that the total number of chain stores in New York City declined by 13.3 percent, the largest year-over-year decline in chain stores since they began to analyze the city’s national retailers 13 years ago. And although predictions of the total demise of office space are not likely to come to fruition, now is the time for property owners to think critically about the current use of their property and the potential for conversions of certain spaces, in order to adapt to current demands. Recent proposals to New York State’s Multiple Dwelling Law and the New York City Zoning Resolution recognize these needs and attempt to facilitate such conversions.

On January 19th, in connection with New York State’s proposed 2022 budget, Governor Cuomo proposed a temporary rule to amend the New York State Multiple Dwelling Law (“MDL”) applicable to lawful building permits issued prior to December 31, 2026, with a stated intent to “authorize flexibility in zoning to address high commercial vacancy rates and underutilized hotel properties located within specified areas in New York City, particularly in response to the COVID-19 pandemic.” The proposed MDL amendment, which was recently revised, would override sections of the New York City Zoning Resolution (“Zoning Resolution”) in order to more easily allow the conversion of certain hotels and Class B and C office buildings to residential use. Although there appears to be some disagreement as to which sections of the Zoning Resolution would be affected (discussion below), the MDL amendment states that it would override other state and local laws, including the Zoning Resolution, that would otherwise inhibit such conversions, although existing use regulations still apply. Buildings seeking to convert to residential use under the amendment are required to be located in certain areas of New York City (hotels must have fewer than 150 rooms and could be in any borough outside of Manhattan or in an area in Manhattan outside of Chambers Street and 110th Street, and office buildings would need to be located in the area in Manhattan below 60th Street). Additionally, buildings converted to residential use under this proposal would be required to be part of a supportive housing facility, or to set aside at least 25 percent of their newly created units as affordable housing.

Separate from the Governor’s proposal, citing a 22% drop in construction activity from 2019 to 2020, the Real Estate Board of New York (REBNY) has also called for the relaxing of certain zoning regulations to allow unused office buildings, particularly those containing outdated Class B and Class C office space, to be more easily converted to residential buildings.

Although both the Governor and REBNY’s proposal would go a long way in easing the burden faced by vacant commercial properties seeking to convert to residential use, there are a number of additional considerations to keep in mind when contemplating a conversion of property.

Is the use allowed? At its most basic level, the Zoning Resolution divides uses into four categories: residential, community facilities (such as medical offices, hospitals and schools), commercial (including offices, hotels, and retail stores), and manufacturing. Certain zoning districts permit multiple uses, but many uses are restricted throughout the City’s wide array of zoning districts. Although residential uses are largely permitted in commercial zoning districts, the reverse is not always true. Industrial uses, including warehouses, may not be located in residential districts, and residential uses may not be located in manufacturing districts. Therefore, a former office building in a manufacturing district could not be converted to residential use.

Does the building’s Certificate of Occupancy need to be changed? Due to their age, not all buildings in New York City have a Certificate of Occupancy (or “CO”); however, a change of use may trigger a requirement to update an existing CO or to obtain a new one.

Is there available floor area to accommodate the use? It is often the case that the allowable floor area ratio (or “FAR”), which regulates the permitted size of buildings, is not the same for the various permitted uses within a zoning district. Many zoning districts allocate significantly more floor area for medical offices, hospitals and schools than they do for commercial uses. This could make it relatively easy to convert a space that formerly contained a retail store into a medical office. However, certain zoning districts, particularly those in and around central business districts such as Midtown, Lower Manhattan and downtown Brooklyn, allow more commercial floor area than residential floor area, which could complicate the conversion of an office building to residential. Article I, Chapter 5 of the Zoning Resolution already allows the conversion of certain non-residential buildings constructed prior to December 15, 1961 and located in certain areas of Manhattan, Queens and Brooklyn, as well as buildings constructed prior to January 1, 1977 and located in Lower Manhattan, without regard to underlying floor area and other bulk requirements. Additionally, buildings in commercial zoning districts in other areas of the City may also be converted without regard to underlying floor area regulations, if such buildings were constructed prior to December 15, 1961. However, buildings constructed after these dates must largely still adhere to the applicable zoning district’s floor area regulations.

In those instances where the zoning district’s maximum permitted residential floor area does not allow the residential conversion of the entire building, “air rights,” which are unused or excess development rights that can be transferred between adjoining properties, may fill in the gap to allow a residential conversion of the entire building to take place. Although it may be more common to see the sale of air rights to increase the size of a new development, development rights transactions can also generate significant value in the case of a conversion or alteration. For example, the owner of an office building located in Brooklyn and constructed in 1985 may wish to convert several floors to residential use, but the formerly commercial building is “overbuilt” with regard to the residential FAR and there is remaining floor area that may not be converted to residential. While the Governor’s proposal may ease floor area requirements for those buildings in the geographic catchment areas, it will not help with this floor area issue for those located outside of those areas, such as the theoretical Brooklyn office building. However, a neighboring building may be underbuilt, with unused excess residential floor area. A sale of that unused residential floor area can result in a win for both parties, with a financial gain for the selling party and the ability to provide vacant space within a building, a second life.

Utilizing the Governor’s Proposal The Governor’s proposal to ease the MDL light and air requirements, and override the “local zoning law ordinance, resolution or regulation addressing minimum light and air standards…” for residential conversions is ambiguous as currently drafted, because the end of the same section of the proposed legislation states that all local zoning laws are overridden to allow these conversions. Given the mixed messages, are we to infer that all of the Zoning Resolution’s regulations can be overridden in the residential conversion of a commercial building, and not just those provisions relating to minimum light and air standards? We may find that the answer is yes, or else many buildings will find themselves unable to convert. Assuming that the proposal does override all bulk regulations that would otherwise hinder residential conversions, such buildings would become legally noncomplying with the provisions of the Zoning Resolution upon conversion, triggering potential future issues with financing, particularly with respect to the case of significant damage or destruction to the building. Perhaps a more streamlined solution would be for the Governor to propose a temporary change to the Zoning Resolution more widely applying the provisions of Article I, Chapter 5 of the Zoning Resolution to include a greater number of residential conversions, such as the office and hotel buildings targeted by the current proposal. The Governor is likely bound, however, by the Home Rule Powers of the New York State Constitution, in making changes to the City’s Zoning Resolution, as opposed to simply overriding it.

Regardless of the legislative means used to repurpose commercial buildings, it will be critical for the City and State to think creatively about ways in which to continue to generate economic activity and to provide sufficient space for the housing and other services that New Yorkers rely upon. Conversions are one way to reuse the City’s significant existing building stock and to provide a second life for vacant spaces.

Jennifer Dickson is a principal planner and Jodi Stein is a partner in Sheppard Mullin’s Real Estate, Land Use and Environmental practice group in New York. Brian Strout is President of TRIZ Advisory Group LLC.