Why More Apartment Buildings May Not Be The Answer To Oahu’s High Housing Costs
When the new Lilia Waikiki apartment building starts taking in residents next month, the opening will mark something unusual for Honolulu: a new high-rise development offering apartments for rent at market rates.
Built by Brookfield Properties, a unit of the Canadian giant Brookfield Asset Management, which also owns Ala Moana Center, the apartment building in the heart of Hawaii’s main tourist district will have amenities common for luxury condominiums sprouting up nearby in Kakaako.
The difference: the 28-story building’s 401 units are for rent.
It’s a rarity, for Waikiki and Oahu in general. The economics of developing multi-family projects make it easier to build and sell condos. But Brookfield is making a big bet on Oahu’s rental market, investing in the heart of the island’s iconic tourist district.
“There’s been no new housing option in Waikiki in a long time,” said Kris Hui, senior vice president of Brookfield Properties Development’s mixed-use division. “We just want to provide a different option.”
And Brookfield isn’t stopping with Lilia. The company has approvals for a second apartment tower at the Ewa end of Ala Moana Center, Hui said.
The company is planning 581 apartments with 120 of them for people earning 80% or less of Honolulu’s median income, Hui said, about $67,680 for a single person and $77,360 for a couple. It’s a rare opportunity for affordable rentals next to the posh Park Lane condos and a stone’s throw from Ala Moana Beach.
“They’ll have some very nice neighbors,” Hui said.
Brookfield is hardly the only developer building market-rate rentals. Developers Cayenne Pea and Jon Wallenstrom, co-founders of Alakai Development, for example, helped develop the 500-unit Kapolei Lofts. Pea and Wallenstrom also have developed a 318-unit community called The Element in Ewa Beach.
But such projects are rare. More often developers build condos. That means lining up buyers ahead of time, collecting deposits, and, when the project is finished, turning over units to the buyers, who essentially pay back the cost of building the project and assume maintenance expenses through condo association fees.
For developers, apartments are riskier and more expensive. It’s not only that planning, design and construction costs are high, developers say. There are also maintenance costs, which are covered by the landlord, not a homeowner’s association. But the kicker, said Wallenstrom, is often private financing.
Developers building affordable rental housing often can get some help from the government. For projects setting aside a bulk of apartments for people earning 50% to 60% of the area’s median income, there are low-income housing tax credits, which essentially serve as equity — a chunk of cash like a down payment needed for a mortgage. Additionally, Honolulu recently adopted an ordinance making it easier to redevelop small, walk-up buildings into affordable rentals with more units than previously allowed by zoning laws.
“What people don’t understand is it’s the mom and pop investors who have been subsidizing the rental market for years.” — Developer Christine Camp
Kapolei Lofts qualified for a state general excise tax exemption by setting aside 300 of its 500 units at below market rates, said Steve Kelly, president of the Kapolei Properties Division of the James Campbell Co. Although not the same as the equity provided by the low-income tax credits, the exemption helps, Kelly said.
“Really it’s those incentives that allow the projects to be built,” he said. “You would be hard-pressed to make those projects pencil out without those incentives.”
Another issue is the cost of capital. Developers generally need equity investors, and equity investors want a return on their investment, Wallenstrom said. And when competing for such capital, Hawaii can be at a disadvantage, he said.
Hawaii’s time-consuming regulatory approval processes drive up costs of capital, he said. Another factor is that Honolulu and Hawaii in general are losing population, which can raise questions about investing here, Wallenstrom said.
“If you’re a dispassionate person and just look at it intellectually, you can understand why people might want to put their money elsewhere,” he said, pointing to booming markets like Salt Lake City, Utah.
Honolulu developer Christine Camp saw some of these dynamics when she attempted to develop and operate 7000 Hawaii Kai Drive, a 269-unit complex with 55 affordable units and 214 market-rate apartments.
Maintenance, development and financing costs were so high that the property had to charge market rate tenants as much as $3,800 per month to subsidize the affordable rentals and cover debts and maintenance, said Camp, who is chief executive of Avalon Group.
It turned out there simply wasn’t a big appetite for apartments renting for nearly $4,000 per month in Hawaii Kai, Camp said.
“If you pay $3,800, that’s a mortgage,” she said. People would just as well buy a condo.
In the end, just two years after opening, Avalon converted 7000 Hawaii Kai’s market rate apartments into condos and sold them.
The project still has 55 affordable rentals, Camp said. Of the remaining units, a little over half are owner occupied and the rest are owned by investors who rent out the properties.
Small Mom And Pop Investors Fill A Niche
Such small real estate investors play an important role in Honolulu’s market, Camp said. And their pervasive presence in the market is another factor that can discourage big institutional investors, she said.
The reason, Camp, Wallenstrom and other experts said, is that such investor-landlords typically will accept smaller short-term returns than institutional investors, which want substantial cash flow immediately. Many of the individual investors want merely enough rent to cover their mortgages and maintenance fees, Camp said. The expected pay-off comes later when the owner sells the property.
“Basically they’re looking for capital preservation whereas an institutional investor is looking for return on their capital immediately,” she said.
Camp said housing advocates who criticize investors for buying condominiums often overlook this.
“All of these people who fight to make sure investors don’t buy condos are shooting themselves in the foot,” she said. “What people don’t understand is it’s the mom and pop investors who have been subsidizing the rental market for years.”
Despite such challenges, developers are still building apartments — just not as fast as condos.
James Campbell is looking at another project in Kapolei, Kelly said, although it’s too early to share details. And there’s Brookfield, making its big investment in Waikiki.
Hui declined to say how much the company is spending to build Lilia, but he said a project might spend $10 million to $15 million simply to cover things like architectural and engineering plans, traffic studies and other work needed merely to obtain various government approvals to build.
Like other market rate apartments, Lilia won’t be cheap: a 431-square-foot studio will start at around $2,875 per month, while the most expensive, a 1,994-square-foot, three-bedroom, three-bathroom penthouse apartment, will go for $11,400 per month.
The building’s location near the beach in the heart of Waikiki is a major selling point, Hui said.
Brookfield is also selling convenience. Tenants seeking a place to live will be able to deal with one firm managing multiple units instead of dealing with multiple mom-and-pop landlords, he noted. Also, for those who do rent, a Brookfield representative will be on site to deal with problems, he said. Finally, he said, there’s a ground-floor tenant, the long-time Waikiki grocer Food Pantry.
The grocer provides more than convenience, Hui said; it also helps the project work financially.
“Without that retail component, this would pencil much differently,” he said.
If Lilia doesn’t pencil out, Brookfield can’t go the way of 7000 Hawaii Kai and convert to condos. That’s because the property’s owner is the Queen Emma Land Co., the real estate arm of The Queen’s Health System, which was founded by Queen Emma and King Kamehameha IV. Brookfield leases the land from Queen Emma, and under its lease, Brookfield can’t convert the apartments to condos, Hui said.
But, Hui added, “Even without a ground lease, we’re here to build rentals.”
And that includes affordable ones. Located in a collection of low-rise buildings across the street from the Lilia tower, the 53 units, known as the Kanekapolei Collection, all have been rented out, Hui said.
At a cost of about $1,400 a month for a one-bedroom or $1,850 for a two-bedroom, they are meant for households earning no more than 80% of the area median income, which for one person means no more than $67,680 and $77,360 for two.
When the Ala Moana apartment project is completed, Brookfield, which manages $690 billion in assets globally, will have 1,035 apartments for rent in Honolulu, including 211 for households earning less than the median.
Hui, a veteran developer whose previous projects include Pacifica and Symphony in Ala Moana, said the company is committed to providing lower cost rentals. Lilia’s affordable rentals will remain that way for 30 years, he said, while the Ala Moana tower’s units will rent at below the market rate for 45 years.
Still, while there’s clearly a need for less expensive rentals, the question for Brookfield is whether there are hundreds of people wanting expensive rentals in Waikiki and Kakaako.
“The answer,” Hui said, “is obviously we hope so.”
“Struggling To Get By” is part of our series on “Hawaii’s Changing Economy” which is supported by a grant from the Hawaii Community Foundation as part of its CHANGE Framework project.
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