Landlords will sometimes try to give a tenant some incentive to lease an office, retail, or warehouse space. One such incentive is a tenant improvement allowance (aka TIA or a TI allowance). This is money they offer to customize the space to a tenant’s specific needs. The purpose of this blog post is to help people better understand what exactly a tenant improvement allowance is.
This particular post is written with tenants in mind. However, H.W. Holmes, Inc. partners with both tenants and landlords on Los Angeles and Ventura area tenant improvement projects. We’ve just found that it’s mostly tenants who have questions about the TI allowance process. We hope this post helps answer a few of those questions.
HOW MUCH WILL A LANDLORD PAY TO HELP CUSTOMIZE A SPACE FOR YOUR USE?
When you’re shopping for a commercial space, very rarely will you come across a location that’s seemingly tailor-made for you and move-in ready. Maybe it’s a great location but the interior hasn’t been upgraded since the 90s? Maybe a wall needs to be taken down or drab carpeting needs to be lifted?
Whatever improvements may be needed, the tenant improvement allowance is the dollar amount a landlord is either willing to spend or hand over to you to build-out the space to your exact needs.
Typically a TI allowance will be offered as a lump sum of money or a specific dollar amount per square foot. It should always be negotiated up front before any papers are signed.
WHAT SHOULD A TENANT AIM FOR WITH A TI ALLOWANCE?
A tenant should always strive to negotiate enough of a TIA to cover most – if not all – of the construction costs associated with readying a space to accommodate your employees or customers.
For instance, let’s say you’ve found a space you like but your overall vision includes a conference room, one or two private offices, and a break area for employees complete with a sink and plumbing.
You’ll want to get an estimate for this type of build-out to take with you into the negotiation process. That would be the number you’d hope to get from the landlord. That said, you should remember that factors like your credit, the length of the lease you’re looking to sign, and the market (is it tenant friendly or landlord friendly) come into play.
WHO MANAGES THE USE & SPENDING OF A TI ALLOWANCE?
A TIA can either be Landlord Controlled or Tenant Controlled.
This is where the landlord directly pays any contractor and vendor for construction. The advantage to a Landlord Controlled tenant improvement allowance is it spares you some time and stress since overseeing construction and TIA spend isn’t your responsibility. However, it’s important to remember that a landlord’s interests may not necessarily line up with yours. A landlord with control is less likely pursue competitive bids. They may leverage an already established relationship with a local contractor to keep costs to a minimum. He or she also won’t have much incentive to cut costs. They might also be inclined to pocket any difference if the total cost of construction is less than the TIA paid out. For example, a landlord of a small office space might say they’re paying out $25 per square foot but only pay the contractor $20 per square foot. That additional $5 per square foot could very well end up in their pocket.
In this scenario, the tenant selects the contractor and oversees construction. The landlord either reimburses the tenant when receipts are presented at the end of construction or pays in cash when the lease is signed. Partial payments as work is in progress and specific milestones are achieved can also be negotiated. While the tenant has more control of the build-out and renovations in this scenario, it is a lot of responsibility. It’s the tenant’s responsibility to oversee construction and stay on budget. A tenant must decide if controlling every aspect of the build-out like this is worth being pulled away from focusing on their business. Bringing in a project manager is recommended for larger tenant build-outs. A project manager can oversee the construction process; freeing the tenant to better monitor costs, timing, and other project details. Most business owners would prefer focusing on matters like that and running their day to day business than project managing a construction project.
WHAT IS THE AVERAGE TIA?
There are many factors that determine the amount of the TIA a tenant will be offered. These include market conditions, lease terms, the type of space and the tenant’s credit score.
Typically, a commercial space that’s in shell condition (a brand new space) can net anywhere from a $25 to $50 TIA per square foot.
Comparatively, a 2nd generation space (one previously used and occupied) might garner a TIA of $15 to $25 per square foot.
To determine if the landlord is offering a fair TIA, a tenant needs to go into negotiations with a general idea as to how much construction will cost.
This is important. Again, the type of space and the location matter. For instance, Los Angeles tenant improvement costs for a mid-range office space can run anywhere from $50 to $75 while executive office space tenant improvement costs might run anywhere from $90 to $150 per square foot.
Therefore, accepting a TIA of $25 per square foot won’t give you that much help. This is why it’s a good idea for a tenant to enter negotiations with at least 1 or 2 preliminary construction bids.
If a tenant isn’t able to negotiate a TIA high enough to cover the total cost of renovations, an additional tenant improvement amortization could be requested. This is basically a loan the landlord issues up front to cover the cost of improvements. Interest is added and the money is paid back from the monthly rent paid out.
LOOKING FOR TENANT IMPROVEMENTS IN VENTURA, SANTA BARBARA & LOS ANGELES COUNTIES?
Because a TIA typically doesn’t need to be repaid, landlords can use it to incentivize a tenant to sign a lease. Granted, a landlord won’t always agree to pay 100% of a tenant’s ideal layout. Particularly if a tenant wants lavish or above standard finishes like granite countertops. Sometimes a landlord knows it’s a landlord’s market and can leverage that to his or her advantage in the form of a stingy TIA. But, if any customization is needed to make a space useable to a tenant’s business, details as to who is paying for what, what’s covered, and how much will be paid out, need to be ironed out before any lease is signed.
Don’t let yourself walk into a lease negotiation unprepared or reliant on cost estimates provided by the landlord. H.W. Holmes, Inc. is a commercial contractor specializing in office, retail, and restaurant tenant improvements throughout Southern California. Give us a call today at 805-383-9929 for a free project estimate.