If you’re thinking of leasing out a commercial space for your retail store, warehouse, or office, there’s a good chance that you’ll need to make some modifications to the building and its design in order to effectively run your business. Your landlord won’t know what improvements the property needs to accommodate your business, which means that you’ll be tasked with performing these modifications and renovations on your own. These alterations are referred to as “tenant improvements”.
While many commercial tenant improvements involve making substantial changes to the premises, they can also be aesthetic renovations that include everything from selecting another paint color for the walls to installing new flooring. Some of the more notable upgrades you can make include adding on to the existing space or replacing the building’s HVAC system.
The many costs and expenses you need to pay to get your business up and running in the new building can be covered via a tenant improvement allowance. Before you sign a lease agreement, you should know what improvement allowances are and how to negotiate them. This guide gives you all of the important information about improvement allowances.
What is a Tenant Improvement Allowance (TIA)?
A tenant improvement allowance (TIA) is a certain amount of money that the landlord and tenant agree to when it comes to making improvements to a commercial building. This money will be paid directly by the landlord and will cover some or all of the construction costs required to make alterations or additions to the premises.
Tenants can use a TIA to customize or upgrade a leased space. In most cases, it’s calculated based on the property’s square footage. For instance, a landlord could agree to pay for $25 per square foot in the commercial space. If the space is 3,000 square feet in size, the tenant would agree to pay around $75,000 in construction costs to the tenant. The TIA is part of the initial lease agreement.
How to Negotiate a Tenant Improvement Allowance
If you want to move into a new commercial space, you’ll first need to negotiate a tenant improvement allowance before taking on a lease. Even though tenants are allowed to ask the landlord to complete all of the necessary work, landlords don’t usually agree to these stipulations. When negotiating the tenant improvements allowance, the terms that you and your landlord must agree on include:
- The rental rate
- Duration of the lease term
- Tenant’s credit history
During negotiations, make sure that you focus on how the TIA payment will be made. Some landlords want to pay the total TIA amount once the project is finished. However, you’ll need to have enough cash on hand to pay contractors until you receive a payment from your landlord.
Before entering negotiations, it’s highly recommended that you:
- Gather information about the space you wish to lease
- Understand the landlord’s priorities and budget
- Present a clear and well-reasoned proposal for the improvements
If your tenant improvements exceed the agreed upon budget, your landlord won’t pay the extra amount, which means that you’ll be responsible for all of these costs. In the event that the tenant improvements are finished below budget, you may be able to get your landlord to use the amount that was saved for your future rent payments.
Understanding the Tenant Improvement Allowance Lease Clause
Every TIA document comes with a lease clause that details the various terms and conditions pertaining to the allowance. This clause includes information about the amount of your allowance, the types of improvements you’re able to make, and any requirements or restrictions that must be taken into account when making improvements.
You should also negotiate favorable terms for the lease clause. You and your landlord must come to an agreement about who will be managing the project, who will pay for the work, and who will design the project. These issues are addressed in the lease clause.
How to Maximize Your Tenant Improvement Allowance
There are several steps you can take to maximize your tenant improvement allowance. For one, it’s highly recommended that you prioritize improvements that will have the biggest impact on your business. If one of the more major improvements is estimated to improve your company’s revenues by 2-3%, it should be prioritized. Every business has different needs when it comes to TIA projects. The most common examples of tenant improvements include:
- Conference rooms
- Extra bathrooms
- Kitchen or break room
- Walled offices
- Drop ceilings
Keep in mind that not every type of improvement is covered by a TIA.
When you’re looking to negotiate with your landlord about possible tenant improvements, you should spend some time negotiating for additional funds or resources. If you already have a good idea about what your improvements will cost, you should have room to negotiate with your landlord. Rely on the advice given to you by designers or space planners. If you can obtain an allowance that’s somewhat higher than your expected budget, the excess funds could accommodate any unexpected costs.
Make sure that you work with experienced contractors who have completed tenant improvement projects in the past. The contractors you hire should be able to suggest creative solutions and deliver premium workmanship.
What Does a Tenant Improvement Allowance Cover?
A TIA can be used to pay for:
- Structural changes
- Finishes and fixtures
- Electrical or mechanical systems
This allowance covers all of the costs that you spend for fit-out instruction, materials, labor, and permanent fixture installation. If doors or windows need to be added to the building, the allowance will cover these costs. It’s also possible for legal fees, permit fees, and other legal expenses to be paid for with this allowance as long as the landlord agrees. However, moving fees aren’t covered.
Once you receive this allowance, you’re unable to use it in a manner that covers expenses that don’t provide value to the landlord. The improvements you end up making to the lease space can be removed by your landlord once you leave. Removing the upgrades is oftentimes necessary to accommodate new tenants. Some additional expenses that you can’t pay for with your TIA include:
- Building improvements, which can be everything from a roof replacement to an elevator upgrade
- Special equipment
- Moving expenses
- Data cabling
Tenant Improvement Allowance vs. Building Standard: What’s the Difference?
Even though tenant improvement allowances are highly beneficial, you will be tasked with covering any extra expenses if you go past the preset budget. This issue isn’t present with a building standard, which is an alternative to a tenant improvement allowance. If you obtain a TIA, this customized allowance will be negotiated between yourself and your landlord. The advantages of a TIA include:
- You’ll maintain control over the budget and construction process
- You can keep any overage depending on negotiations
- Every aspect of the agreement is made before you sign a lease
A few of the issues that come with a tenant improvement allowance include:
- You’ll need to pay for any costs that exceed the budget
- Since the lease has a fixed start date, you may need to continue construction even after you move in because of unexpected delays
- You’ll be responsible for managing the negotiations with government agencies and contractors without the negotiating power that landlords have
A building standard is a type of pre-determined set of finishes or specifications that all tenants gain access to. If you use this arrangement, your landlord will offer a specific package of improvements, which they will cover with their own money. You’ll need to pay for any additions to the property that fall outside of the package of improvements.
With this option, any costs that exceed the budget will be paid by the landlord. If the structure was recently built, your landlord might use building standards since they have construction crews and materials on site. Some of the upgrades that are often covered in a building standard include:
- A type of drop-ceiling
- A certain number of lights per square foot of the building’s floor space
- Numerous drywall partitions
- A grade of vinyl floor covering or carpeting
If the offer that your landlord makes covers most or all of the upgrades that your company requires, the building standard may be the preferred option. The main advantage of this approach is the convenience as well as the fact that any cost overruns are paid for by the landlord. If some of the work doesn’t take place on time, your landlord will be responsible.
While building standards are helpful, they may be insufficient for the type of work you require before you move in. If the document your landlord hands you only covers a small amount of the upgrades you expect to implement on the property, it may be better to seek a TIA.
How Much is a Typical Tenant Improvement Allowance?
The amount of a TIA may be impacted by such factors as:
- Your location
- Length of your lease term
- Types of improvements that are being made
- Condition of the space you want to lease
The TIA amounts can also vary depending on the market and location. In Los Angeles, the average tenant improvement allowance is around $60-$80 per square foot.
When you’re getting ready to move your business into a new office building or warehouse that you intend to rent, negotiating a TIA with your landlord can help you cover some of the costs that are incurred when moving into a new space. Since the details of a TIA are finalized as part of your lease agreement, it’s essential that you understand what a TIA is and how to properly negotiate one before you make an agreement. You can maximize the benefits of a TIA by consulting with experienced professionals who understand how this process works and will represent you during negotiations.
Jason Somers, President & Founder of Crest Real Estate
With over 15 years of professional experience in the Los Angeles luxury real estate market, Jason Somers has the background, judgement and track record to provide an unparalleled level of real estate services. His widespread knowledge helps clients identify and acquire income producing properties and value-ad development opportunities.