Commercial Real Estate: Creating New Housing from Vacant Office Space

Downtown commercial real estate vacancies in certain Kentucky cities have become a challenge — and those rates have increased in the wake of the COVID-19 pandemic.

By the third quarter of 2023, commercial real estate firms nationwide showed $5.8 trillion in outstanding debt, according to real-estate analytics company Trepp, and $544.3 billion was projected to be due in 2024.

This has spawned a trend toward converting commercial real estate to housing, which is in short supply as populations in Kentucky and elsewhere nationally continue to move from rural to urban settings. With some cities looking at office vacancy rates as high as 30%, the conversion practice is already widespread in major cities like Los Angeles and Baltimore.

The conversion trend is making its way into Louisville and Lexington, too. But there is one key challenge.  “Money,” said Rebecca Fleishaker, executive director of the Louisville Downtown Partnership.

Fleishaker said the Louisville Downtown Partnership is actively working with the city of Louisville to revitalize downtown, including attracting developers to potentially convert vacant office buildings into residential units. With the remote working trend already rising prior to COVID, she noted, the pandemic accelerated the rate of remote workers. It furthered an office oversupply effect in Louisville and other downtowns.

The goal now is to revitalize downtown Louisville as a whole—to ultimately fill the streets with people who aren’t going to drive back to the suburbs after they log off at 5 p.m.

Last year, the Downtown Partnership conducted a study of downtown and surrounding neighborhoods to identify where added residential units would be feasible and what the market might sustain. This helped develop a study titled “The 2024 Louisville Downtown Development Strategy: A New Paradigm for Downtown Louisville,” which was presented last spring.

Bottom line, attracting potential residents requires not only more housing, but also making downtown more attractive as a living space.  “We need to think of downtown as a neighborhood,” Louisville Mayor Craig Greenberg said in the study. This concept and the repurposing of vacant buildings must go hand in hand, Fleishaker said—and that requires investment.

“The savings is what you are saving in your historical legacy and beautiful architecture,” she said, noting that downtown Louisville’s vacancy rate is about 24%. “Using an older building is the greenest thing you can do. We need more residents in downtown—there’s a lack of activity on the street. The project that we want to see needs subsidizing. We need better affordable housing.”

Converting office space into housing

One such project, which seems to have stalled due to financial concerns, was the conversion of a downtown Louisville mainstay: the Starks Building. The plan was to convert the 14-story former office and retail building, which was built in 1913, to housing and studio space for artists. It was to be called the Starks Artists Lofts.

But even if that project doesn’t materialize, there is progress nearby. A $575,000 grant from the James Graham Brown Foundation will help the Housing Partnership Inc. convert one floor of a former warehouse west of downtown into retail space to help support recreating the upper floors into housing for seniors.

In addition, construction began in September on the Community Care Campus project, which will convert the former Vu Hotel building in Louisville into a full-service, 29-unit shelter designed for families facing homelessness or other hardships. The $58 million project should be complete by the end of 2027 and will ultimately include transitional housing and other forms of housing and services.

Meanwhile, Jeff O’Brien, executive director for the Cabinet of Economic Development in Louisville, noted that the city received $100 million in state funds for six downtown redevelopment projects, one of which will involve housing conversion. An announcement on the project will come soon, he said.

O’Brien also said the city is beginning to see more interest in conversion projects downtown, including in historic structures such as the 20-story Kentucky Home Life Building, which sold for $15 million in 2021. Plans for the project called for lofts and hospitality, but it remains undeveloped. Hurdles for such projects persist, he said.

“These buildings need a significant amount of work,” O’Brien said. “I think the main driver on a lot of this is high interest rates. We hope to see some of these projects shake loose with the Fed lowering the interest rate. Some of these projects need forgivable loans. Those are really the biggest challenges.”

A shining example 

In Lexington, one example of a conversion in progress is The Vine, a former six-story office building that was home to the Landrum & Shouse law firm. Located at 106 W. Vine St. downtown, it was purchased by developer Jeremy Delk for $5.1 million and is being converted into luxury residential space.

Plans include a total of 46 luxury residential units, starting at $495,000. But the concept allows owners to rent out their units as hotel space, making it either a permanent home or a potential investment for buyers. The project will include a semi-private club and retrofitted balconies. The Brokerage, which is representing The Vine, held an open house in the building in early September, and many of the units have already been sold.

“Even though Lexington is fortunate to not have much vacant office space like some other cities, it’s still interesting to see how properties can be repurposed,” Fayette County Property Value Administrator David O’Neill said in a social media post.

 Historical redevelopment 

Another way cities are dealing with downtown vacancies is by preserving historic buildings and converting them to modern uses. Developer Chad Needham and his company, Needham Properties, have completed dozens of such projects. One of the more recent projects is Lexington’s Greyline Station, a 65,000-s.f. former bus station 10 blocks north of downtown. The empty station property in Lexington is now home to restaurants, shops, vendor booths, a wine bar, business offices—including Needham Properties—and Clerestory, a private-event space.

Along with partners Chris and Terry Kelly, Needham is currently renovating a structure in the heart of downtown Lexington that dates to the early 1800s. Located at 124 N. Upper St. in Lexington, the building had been neglected for about a century and that it is requiring an extensive conversion, Needham said. The plan is to ultimately have eight office spaces, two residential units, and five street-level retail spaces. There’s also a basement in the building, which is being renovated as well, although there are no plans for it yet.

“It’s a full gut-and-remodel,” Needham said, starting with shoring up the foundation and making it structurally sound. It’s costly and time-consuming, but he deems it worthy to preserve the building and its long history in downtown Lexington. For example, the building once housed offices for many doctors and lawyers and was known as the Dr. Walter Warfield Building.

Amidst many other storefronts and businesses, the retail spaces were part of a bustling downtown section directly across the street from the old Fayette County Courthouse, which itself underwent a full historic renovation nearly a decade ago. The main corner retail unit in the building has in recent years operated as various restaurants.

“It’s been a commercial storefront for a couple centuries,” he said. “We’re going back to what it was designed to do originally. It’s better than seeing it razed and become a surface parking lot.”

Needham believes in preserving these buildings, whatever the cost, and Greyline Station is a prime example of this approach.

“Ninety percent of our projects were vacant,” he said. “We want to give it some new life so it can be around another couple hundred years. As an urban developer, you want to keep the fabric and footprint of the existing neighborhood. I think the old buildings tell a great story.”

‘If you build it’ 

The notion that a downtown lacking housing and theoretical residents might also need retail and other amenities is not lost on Fleishaker, but she believes the two can go hand-in-hand as part of a larger plan for downtown revitalization and conversion.

“I believe in the adage that if you build it, they will come,” she said. “Anything retail needs ‘heads.’ That will happen during conversion.”

Meanwhile the city and Louisville Downtown Partnership believe the key to attracting conversion projects will also involve attractions like downtown dog parks, walkable streets, public art and generally improved public spaces. More projects such as Needham’s could help as well, one example being the expanded and reimagined Louisville Stoneware complex, which added restaurants, retail space and a performance venue on East Broadway in recent years.

O’Brien believes improvement is coming, in part with the help of increasing downtown Louisville tourism from bourbon culture to conventions returning to the city.

“We need to give people a reason to be downtown,” he said.