The full form of TI is Tenant improvement.
Tenant improvements (TIs) are critical if you want to ensure that your business space is tailored to your requirements and essential to your brand.
Understanding what a TI is and what types of improvements are available is critical when considering leasing space for your company and team.
When leasing a new space, tenants frequently discover that the space requires customization for their specific business needs.
Tenants typically have the opportunity to discuss customization with the landlord prior to signing a lease and request that certain tenant improvements be made before taking over the space.
What is Tenant Improvement?
Tenant improvements (TI) are customized changes or repairs made to a property as part of a lease agreement.
They are "a pre-negotiated amount of money that a landlord will provide a tenant to cover a portion of construction costs to customize the space for their specific needs," according to Mindy Williams-McElearney, Director at Turner & Townsend, a global construction consulting firm.
Before occupying the space, a tenant typically requests specific improvements or a tenant improvement allowance, which the landlord agrees to in the lease.
Tenant improvements, however, do not cover everything. Walls, HVAC, electric, plumbing, paint, carpets, windows, or doors, among other hard and soft costs, are examples of tenant improvements.
Miscellaneous expenses specific to an individual tenant's needs are not included in tenant improvements.
A landlord will generally not pay for an expense if the improvement will not be beneficial or appealing to the next tenant who will occupy the space or if it is something that can be removed and taken with the tenant when the tenant leaves, providing no future benefit to the landlord.
Typically, tenant improvements are trade fixtures. Furniture, specific equipment, moving expenses, and electronics are some examples of items that are not included in tenant improvements.
Tenant Improvement Allowance: Who Pays for Tenant Improvements?
The landlord usually pays for tenant improvements in commercial leases through an agreed-upon tenant improvement allowance. The TI allowance is clearly stated in the lease and is paid for by the landlord.
If the costs of the improvements exceed the allowance, the tenant is responsible for the difference.
According to Williams-McElearney, the TI allowance is typically expressed as a lump sum or per-square-foot (PSF) amount and is negotiated prior to lease signing.
Landlords are not required to provide a TI allowance, and if the lease market is strong and there is high demand for the property, they are less likely to do so.
However, in recent years, it has become more common for TI allowances to appear in lease agreements as an added perk of leasing a specific space.
How to Negotiate Lease Agreement Tenant Improvements
Marina Vaamonde, a real estate investor and Founder of MultifamilyCashin, advised having three years of financials, tax returns with all schedules, and a description of your company's history ready before negotiating tenant improvements in your lease agreement.
Some landlords will amortize the costs of tenant improvements through rent payments. "Try to negotiate a return to market rent once you've repaid the TI," Vaamonde advised.
Essentially, tenants should try to negotiate for whatever financial assistance their landlord is willing to provide. Include detailed reasons why certain improvements or customizations are required for you to run a successful business. The landlord is more likely to agree to the TI this way.
How to Handle Tenant Improvements During Tax Time
Tenant improvements are considered "real property depreciable on a straight-line basis" under federal income tax laws, according to law firm Ballard Spahr.
For tax purposes, if the landlord pays for and owns the tenant improvements, the landlord can only recover the cash "ratably over 39 years as depreciation deductions."
There are no tax consequences for the tenant in this case, and it is not the best outcome for the landlord in general.
The landlord, on the other hand, could provide the tenant with a tenant improvement allowance and make the tenant the tax owner of the improvements.
In this case, the landlord can spread the TI money over the course of a 10-year lease. In this manner, the landlord will recoup their investment in ten years rather than 39.
However, this is not the best outcome for the tenant. The tenants would be the ones recouping the money over 39 years, "unless the tenant vacates the leased premises at the end of the 10-year lease term, in which case the underappreciated balance can be written off by the tenant," according to Ballard Spahr.
Tenant Improvements Examples
Depending on the type of space you're renting and the state of that space when you sign a lease, you can make a variety of tenant improvements.
"Some leases are for spaces that are already outfitted with walls, carpeting, lighting, and other amenities, and only minor cosmetic upgrades are required before the tenant moves in," Williams-McElearney explained. "Some examples include replacing flooring, changing or refreshing wall paint, and upgrading light fixtures."
Other locations, however, require more extensive tenant improvements, such as a "full fit-out," such as "when a tenant is taking a raw space and needs to hire a team of project consultants to help them design and build out the space according to their specific needs," according to Williams-McElearney.
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