Tenant improvement allowances, also known as TIA, leasehold improvements or build-outs, are modifications or improvements made by the property owner or the lease holder to turn the space more usable for the tenant’s operating needs. It is a common practice in commercial real estate spaces for building owners to attract or retain tenants. Moreover, these allowances may also be provided as part of a new lease negotiation.
1. What is and what isn’t TIA?
Tenant improvement allowances include architectural, engineering and space planning fees, which basically cover changes made to ceilings, flooring and inner walls. In some cases, these may also include costs associated with consultants, legal fees, moving expenses, equipment, fixtures, furniture and signage. For example, a call center might need cubicles and telephones, while a doctor’s office might need a variety of rooms with more open spaces for nurses and administrators.
Not included in the TIA coverage are alterations to the exterior of a building, as well as elevator upgrades, roof construction and the paving of walkways.
2. How is TIA calculated?
TIA is stated as either a dollar per square foot fee or a total dollar sum, and is typically calculated based on the size of the space multiplied by the negotiated TI allowance. While the size of the space is easy to determine, the dollar amount depends on factors such as the real estate market you’re in, the location of the space, your credit and tenant history and the space’s condition. As an example, if the allowance is negotiated at, say $20 per square foot, and the space spans 5,000 square feet, TIA equals $100,000.
3. Who pays for TIA?
There are four ways a landlord will pay for TIA:
- The landlord gives the tenant a certain amount of money to cover the improvements, and the tenant oversees the work;
- The landlord offers free rent or a discount on rent for a certain number of months. In this case, the renter uses the savings to pay for the upgrade and oversees the work;
- Building standard allowance, also known as “build-out” allowance. In this case, the landlord offers an improvement package that consists of types of flooring, fixtures and fittings at a certain price. The renter chooses items from the selected package and the landlord is the one overseeing the work; anything not included in the package will be paid by renters themselves;
- Turn-key projects are built around an improvement plan with cost estimates submitted by the renter and the landlord pays and oversees all the work.
Building improvements, leasehold improvements, qualified restaurant property and qualified retail improvements are considered capital and are amortized over the length of the lease. Originally, these were all treated differently. Nowadays, since the 2018 Tax Cuts and Jobs Act, they are rolled into one and are treated as qualified improvement property for tax purposes. Specifically, the 15-year depreciation bonus is no longer in the new tax law, and depreciation takes place over 20 or more years.
4. Is TIA negotiable?
Just as the lease price is negotiated, so are the TI allowances. Know the market you’re leasing in and negotiate well. Be prepared to have the landlord unwilling to pay for 100 percent of your ideal build-out, but remember that it all depends on your credit, length of lease term, the rental rate and on whether it’s a tenant or a landlord’s market.
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