Mayor London Breed publicly acknowledged this week what many in San Francisco already suspected: the work-from-home trend is here to stay.
“Life as we knew it before the pandemic is not going to go back,” Breed said in an interview with Bloomberg News. “We thought people would miss working around other people, but they do not.”
A newly released report from the Controller’s Office is one of the first to grapple with the scale of the issue and its impact on San Francisco’s economy.
In an interview, SF’s chief economist Ted Egan called the staying power of remote work “a major shock” to the office market—and a potentially permanent change to the city’s landscape.
“We wanted to make decision makers know that we in the Controller’s office are aware of this phenomenon,” Egan said. “We don’t think that everyone’s going to go back to work.”
The report focused on the ripple effects of vacant commercial real estate—which makes up around 18% of assessed (or taxable) real estate value in the city. Property taxes are San Francisco’s single largest source of local tax revenue, contributing more than $2 billion to the city’s general fund.
Permanent remote work “will impact virtually every aspect of San Francisco’s economy,” the report states, noting that office-based industries generate nearly 75% of the city’s GDP.
The budget analysts wrote the report in response to a letter of inquiry from Sup. Catherine Stefani seeking to quantify plummeting demand for commercial space. The supervisor plans to call a hearing in November for further details on the findings.
“San Francisco’s downtown recovery is lagging behind almost every major city in the country,” Stefani said. “We must be innovative and creative as we adapt to these changes and plan for the future. We also must address the public safety crisis we are facing—we cannot ask people to come back while our streets are unsafe and unclean.”
Employers have generally acquiesced to employees’ desires for flexible work arrangements, with nationwide surveys showing businesses planning to allow remote work around 2.75 days per week on average. The SF Standard Fall 2022 poll showed that most residents prefer to work in person only some of the time, but are nonetheless worried about the state of Downtown.
Rising office vacancies will have a direct impact on office buildings’ expected incomes and, by extension, their property values. Researchers at the Institute of Taxation and Economic Policy estimated that SF’s commercial property values could decline as much as 43% over the short term.
Despite waning worries about the pandemic, office attendance remains low: Back-to-office numbers from key-card access company Kastle Systems show San Francisco hovering around 40%, near the bottom of the list of U.S. cities. An analysis of foot traffic data by Placer.ai found that “the office recovery essentially plateaued, with many employers settling on some form of hybrid work.”
While commercial vacancy rates have risen across major cities nationally, San Francisco is at the forefront of these trends with the largest rise in office vacancy among major markets since the pandemic. Vacancy rates in the third quarter rose to a record-breaking 24%.
Projections provided by JLL look even worse: The real estate firm forecasts office vacancy in the city to stay between 19.5% and 25.3% by 2026. A “pessimistic” projection shows office vacancies peaking at 30.8% by the end of 2023.
“Direct vacancy is growing really rapidly and it’s actually the sublease market that’s remained kind of steady. That seems new to me and a little bit ominous,” Egan said, noting that even the most optimistic projections for vacancies are worse than the dot-com bust. “Any way you slice it, it’s not a promising office market going forward for the next four to six years.”
Prop. 13, which limits the growth of a property’s assessed value to 2% increases, acts as a cushion for the city’s property tax revenue. But the city doesn’t yet know how much protection it will offer from a drop in property tax revenue.
The Controller’s Office is working on a model to estimate how far property values can fall without a major hit to the city budget. Adding fuel to the fire are higher interest rates, which would lower values of office properties even without remote work.
“The fact that, until mid-2022, most of the city’s vacant space is on the sublease market, and still generating rent for the building owners, is an indication of the lag between a downturn in office demand, and a downturn in property tax,” the report said.
While there are no hard numbers yet, budget analysts are operating under a few key assumptions.
Those include instability in the office market because of the lack of an established work-from-home routine, and a recognition that pre-pandemic office attendance will not return.
While the report mostly focused on office vacancies and commercial property tax revenue, Egan said the budget office is also working to project the impact of remote work on residential property tax revenue.
There are already some signs of softening in San Francisco’s housing market, including recent data showing the city’s housing prices falling faster than the rest of the Bay Area.
Kevin Truong can be reached at [email protected]