San Jose eyes thousands of new homes after new housing policy, incentive changes

San Jose has approved a slew of housing initiatives and incentives — including some for office-to-residential conversions downtown — to jump-start the construction of thousands of units previously stalled by unfavorable market conditions.

Despite the city approving tens of thousands of housing units since 2020, fewer than a third have broken ground, leaving San Jose well behind the state’s mandate to plan for 62,200 units by 2031.

With the office market still in shambles post-pandemic, the San Jose City Council has decided to modify its downtown high-rise incentive program to include significant tax and fee reductions for select office conversions, which could prove cheaper and quicker for adding housing. The city is also extending its multifamily incentive program, which has proven fruitful in getting some shovels in the ground after zero new market-rate starts in 2024.

“We have to recognize the severe financial feasibility challenges facing downtown high-rise construction as outlined in last year’s cost of residential development study,” said District 3 Councilmember Anthony Tordillos, who represents downtown. “I’m a firm believer that any forward-looking post-pandemic vision for our downtown must include a significant amount of new housing in order to address our housing shortage and bring the sort of vibrancy back to our streets that helps to support our local businesses, improve public safety and support the economic health of our city.”

Over the past several years, city officials have used incentives to help counter high interest rates and rising costs that have stalled projects. A RAND study last year found that market-rate and affordable projects were significantly higher in the greater Bay Area than in California’s other cities and major metropolitan areas across the country, putting the region at a competitive disadvantage for housing development. For example, the average development cost per unit was almost 3.2 times higher than in Texas cities.

“I do think it’s important that we also look at the math and recognize we were way off in building the housing we need,” San Jose Mayor Matt Mahan said. “We’re going to have to be willing to do some pretty bold things if we actually want to get housing built in our city.”

While the city’s downtown high-rise program has helped add three projects totaling 1,226 units, only one building has been constructed in the past few years, hindering the city’s long-term vision of increasing density and making the area a true mixed-use neighborhood.

The new incentives for office conversions include waiving the city’s inclusionary housing requirement that would have set aside a specific number of units for low, moderate or middle-income households, a 100% reduction of building and construction taxes and 50% of park impact fees for the first 500 units. The following 1,000 units that use the program would receive a 50% reduction in taxes and a 30% reduction in park impact fees.

The historic Bank of Italy building is among the projects that could benefit from the incentives.

The multifamily incentive program will jump from 1,800 to 3,600 units, with a a 50% cut in construction taxes.

Five projects took advantage of the first phase, including two from the Hanover Co., which credited the program with helping get the developments started by increasing project returns and reducing costs.

“During the adoption of this program, the Hanover Co. was able to break ground on 742 multifamily units here in San Jose, with 743 still in the pipeline,” said Deanna Chalfant, Hanover Co. vice president of development, noting the reduction in costs and benefit increases. “That increase was sufficient to attract financial partners and secure institutional capital that would otherwise not have been available.”

The city’s extension of incentives has also attracted developers of seven additional projects to seek inclusion on the incentive eligibility list, including the second phase of Republic Urban and Swenson’s Skyline project at Tamien Station.

“We have not been able to move the project forward due to market conditions that have undermined financial feasibility,” said Melissa Durkin, senior vice president of development at Republic Urban Properties. “However, participation in the multifamily housing incentive program is expected to reduce overall project costs by 5%. These savings don’t create excess profit, but rather reduce the feasibility gap that will allow the project to proceed to construction.”

While the city’s incentive programs have drawn much praise from developers, changes to the city’s general inclusionary housing requirements sparked tense exchanges between some residents and elected officials that led to a strong rebuke from Mahan, who accused organizers of spreading disinformation and riling residents by saying city policies were fascist and causing harm and homelessness.

Along with streamlining processes for 100% affordable projects, inclusionary housing compliance now includes offering 15% of units at 60-110% of the area median income. The city previously allowed developers to meet requirements by offering 15% of units between 50-100% AMI or 10% of units at 30% AMI.

City officials have argued that higher rents could improve the feasibility of projects, with Mahan also pointing out that only about 10% of projects subject to the inclusionary housing requirement were built, and that none of those specific developments included units at 30% AMI.

Tordillos added that he believed the lack of supply was a catalyst for the housing affordability crisis, arguing that the addition of more market-rate housing could help slow the growth of rents and eventually drive them down over time.

“We can look at case studies from other cities that have done a much more effective job of encouraging new housing production across our country,” Tordillos said. “Cities like Austin, Atlanta and Phoenix have all built significantly more housing than San Jose has in recent years, and those cities are all seeing rents fall, year over year, following their historic investments in housing construction.”