Washington, D.C.’s Real Property Classification Policy Increases Costs for Developers, Hindering Downtown Housing Program Goals

As of October 1, 2024, the District of Columbia’s Office of Tax and Revenue (OTR) has enacted updates to its tax classification policy, which could lead to higher tax bills for developers pursuing mixed-use or residential projects. This policy change impacts the timing of when properties are classified from commercial (Class 2) to residential (Class 1) and adds stringent requirements for those developing mixed-use buildings in specific zones. Since Class 2 tax rates of 1.89% (for commercially classified buildings assessed greater than $10 million) are more than double Class 1 tax rates of 0.85% (for residential classified buildings, including multifamily), this creates a newfound substantial financial burden on affected developers and taxpayers.

Under the new guidelines, developers working in purely residential zones with solely residential projects benefit from a straightforward reclassification, requiring minimal additional documentation. However, for projects in mixed-use zones or for mixed-use developments within residential zones, the policy requires that construction be fully completed and in active use before any reclassification can occur. Previously, an owner could qualify for residential or mixed-use classification with justifications such as the issuance of a building permit, qualifying for a planned unit development (PUD), etc. Now, developers must show a certificate of occupancy before a request for reclassification is even considered.

This policy change will stifle new residential development, which the city has been recently encouraging to combat both rising office vacancy rates and the extreme loss in market value. The result will be diminished tax revenue for the city as evidenced by recent arm’s length sales, numerous foreclosures, and lower market values of the District’s 700+ large office buildings by approximately 50–70% according to market participants and owners.

Further, the tax classification policy directly contradicts Washington, D.C.’s Housing in Downtown Program, which seeks to revitalize downtown by converting vacant office spaces into residential units through a tax abatement initiative. Participating multifamily developments receive a 20-year residential property tax abatement post-completion. Funding is capped at specific increments: $2.5 million for fiscal years 2024–2026, $6.8 million in fiscal year 2027, and $41 million in fiscal year 2028, with a 4% annual cap increase each year thereafter. The program requires properties to designate either 10% of units for families earning 60% of the median family income (MFI) or 18% for those earning 80% of MFI. These eligibility requirements have already significantly narrowed the pool of interested participants, with only three projects approved to date out of at least a dozen active conversions and several dozen potential conversions. To truly promote downtown’s transformation and address the office space surplus, the OTR needs to reconsider its classification policy to better align with the program’s goals, enabling developers to take on projects that will actively revitalize the downtown area.

Experts at Ryan are actively exploring strategies to reduce tax liabilities for office to residential conversions, aiming to create a more favorable environment for developers and ensure that the city’s vision for a vibrant downtown isn’t hindered by its own tax policies. Contact our local Washington, D.C. team to discuss how we can assist in addressing these classification challenges.