Office Market Woes – What It Takes To Fill Space and How You Can Use The Downturn to Your Advantage
There has been so much focus in the news on the ups and downs of the office market since the start of the pandemic. When workers began to work from home en masse, it caused a monumental shift in the office sector overnight.
The office sector has showed some signs of recovery, but what is not often discussed are the means that urban landlords are having to go to keep their vacancy rates low.
Landlords have historically sweetened deals in different ways, depending on their current needs and the interests of their tenants. Cash gifts, free rent, and other incentives have all been leveraged in the past to fill commercial real estate space. However, according to the Wall Street Journal, payouts have never been so big or commonplace as they are in urban office markets right now. These incentives include months of subsidized rent, paying for moving expenses, cash payments, and more.
For tenants whose leases are expiring, they realize that they have leverage in the current market. If most leases in a building are 10-year, and annually 10% of the leases are expiring, it’s not the bulk of the building’s leases that landlords are sweetening these deals for. Landlords are striking these deals to lower their vacancy rates, then inflate the rent to include the incentives – leaving the actual rent paid as a fraction of the listed value. A commercial building’s property value is partly based on its rental income. However, as the WSJ article discloses, landlords are now receiving 20% less in rents than they had been prior to the pandemic, although face rents are unchanged. This strategy helps keep all the tenants in the building at the same face rent, so longer term tenants don’t feel that they are overpaying, and everyone in the building feels their rates are equal.
The office market may take a long time to recover. No one wants to lose their investment or see the value of their buildings fall, so landlords are prioritizing keeping their tenants happy and their vacancy rates low, and allowing time for the market to bounce back.
That may take awhile. There have been quite a few high-profile companies in the news lately that have dropped or slowed office expansion in New York City, including KPMG cutting their Hudson Yards office space by 40%, Amazon and Meta slowing their plans, Yelp closing their Flatiron offices, announcing “The future of work at Yelp is remote.”
A recent report, “Work From Home and the Office Real Estate Apocalypse,” studied the impact of remote work on the commercial office sector. The report, by NYU’s Arpit Gupta and Columbia University’s Vrinda Mittal and Stijn Van Nieuwerburgh, found a 32% decline in office values in 2020 and estimated that by 2029, New York City’s commercial office buildings will fall in value by 28%. They estimate the longer-term drop to represent a $500 billion loss in value.
The reality is that banks and commercial real estate investors are aware of these reimbursements and incentives when they buy or lend against commercial properties. But commercial landlords in the office sector need to be able to look under the surface and understand that the numbers in news reports are likely not what they seem.
Commercial property owners are very likely wondering what they can do to keep their office properties profitable, and how all of this impacts their commercial property taxes. If landlords are providing these incentives to keep all their lease-holders happy, both long term tenants and those signing 10-year renewals, they shouldn’t be penalized for this when it comes to the tax assessor. With a potential drop in value also comes an opportunity to save money on a building’s operating costs by lowering the property assessment, and therefore the property taxes. Commercial real estate taxes are based partly on a property’s valuation, which is the estimated value that the taxing municipality applies to a property. Just because the landlord is making concessions to keep the listed value of their rents up, doesn’t change the fact that less rental income means a drop in valuation. Savvy property owners can use this to their best advantage to lower their assessment and reduce one of their largest operating costs, real estate taxes.
Given that the office market has been in such flux, and looks to continue a decline, this is an important opportunity to find savings by grieving property taxes on office buildings. Realty Tax Challenge is the best in the business at understanding real property values and knowing where the market is heading, and when the timing is best to push to settle your grievance. If you aren’t currently working with an expert property tax consultant, or if your current consultants haven’t been in touch to discuss how the changing market affects your valuation and your grievance, we recommend you contact us for a free consultation today.