A Mid-Market developer is pulling the plug on plans to include a community-based performing arts center as part of a flashy mixed-use hotel and residential complex at 950 Market St.

Group I, which owns nearly all the property on the north side of Market Street between Fifth and Sixth streets, has told the city it will drop the planned 950 Center for the Arts & Education and go forward with a smaller, less-expensive development consistent with current zoning.

Unhappy surprise

The decision came as an unpleasant surprise to City Hall staffers who had been working with Group I for more than two years to craft a deal that would have allowed the developer to exceed current height restrictions by 80 feet. In exchange, Group I would have built performance spaces for Tenderloin theater and dance groups, as well as subsidized office space for arts groups. The proposal, designed by Denmark’s Bjarke Ingels, called for 300 housing units and a 250-room hotel.

Negotiations were hampered from the start because the city, the arts organizations and Group I could never agree on how development costs would be divided. The arts groups, as well as officials in Mayor Ed Lee’s administration, were pushing for the developer to bankroll construction of the shell of the performing arts spaces. Group I always insisted that the arts nonprofits pay 50 percent of construction costs — an investment that would have run more than $15 million.

Given that the city was willing to rezone the property to allow for dozens of additional housing units and hotel rooms, city officials felt that Group I could realistically shoulder the construction costs itself.

“Unfortunately ... despite our best efforts, we did not believe the financial benefits which would have accrued to the developer from the larger buildings were being passed on to the arts organizations in order to make the arts space truly affordable,” said Ken Rich, Lee’s development director.

Numbers didn’t work

Group I Project Director Steve Kuklin said the decision to cut the arts component came after “a lot of soul-searching.” He said the additional value that would have come from increasing the building from 120 feet to 200 feet would not have covered the cost of building the arts center and subsidizing the occupancy of the space once completed.

“We have been passionate about bringing the arts center to Mid-Market since we starting working on the property three years ago, but the numbers just didn’t work out,” he said. “We couldn’t keep pushing when there were so many loose ends on so many pieces. There was a big need for arts funding to make this happen, and the arts groups we were targeting didn’t have the resources to support the project.”

Supervisor Jane Kim, who represents the area, said she was “disappointed.”

“The 950 arts center was something the community had been excited about for a long time, and something we always envisioned would play a central role in the Mid-Market arts corridor,” she said.

Scaling back

Kuklin said Ingels, whose firm goes by BIG, would remain the designer on the new iteration of the development and that it would still include a hotel and housing, although with fewer rooms and units than originally proposed.

Group I bought the majority of the 25,000-square-foot site for $16 million in 2013 and later paid another $7 million for the eastern end of the block. From the beginning, the developer made arts a centerpiece of the development. A month after Group I closed on the property, the San Francisco Foundation committed $200,000 to help get the arts center off the ground and filed the paperwork necessary to establish a nonprofit to oversee the project. The board engaged consultants to contact arts groups that might potentially use the center and brought on theater designers to work out how the space should be designed.

But in September, Group I informed the advisory board that it no longer wished to partner with them and that it planned to establish its own nonprofit to operate the arts space. That never got off the ground. Meanwhile, the portion of the project dedicated to theater became smaller and smaller in each subsequent design.

Some arts promoters said they hope that the vision can be revived. A low-cost place for up to 10 organizations to share remains the best model for the neighborhood, said Carmela Gold, president of the Tenderloin Economic Development Project. For groups like Youth Speaks and Lorraine Hansberry Theatre, the center could be “the key to survival,” she said.

While the 950 arts center was the biggest new arts plan on Market Street, Rich pointed out that efforts to advance the arts district have largely been a success. In the past two years, eight arts groups have moved into the area or expanded, with two more coming. This includes the Center for New Music at 55 Taylor St., ACT Strand Theater at 1127 Market St., Piano Fight Theater at 144 Market St. and Root Division at 1061 Market St.

J.K. Dineen is a San Francisco Chronicle Staff Writer. E-mail: jdineen@sfchronicle.com Twitter: @sfjkdineen