Tenant Improvements vs. Landlord’s Work Letter

tiworkWhat happens when the Tenant Improvement (TI) allowance is not enough to cover the cost of the landlord’s turnkey construction?  Tenants often find themselves paying the difference in the cost.   So how should you handle the TI allowance issue when costs exceed the landlord’s offer?

Whether the cost of improvements are over or under the allowance, the TI  is the tenant’s money since they are paying it back over the term of the lease.  Therefore, the tenant should try to receive the best value for their money.  You should always insist the landlord include their standard TI’s in the lease so you can compare all the proposals you receive from the buildings under consideration.

We always request a breakdown of the allowance in our requests for proposals because a detailed TI limits future change orders.  For example, we often come across TI’s that don’t include window treatments as part of the base building build out. Tenant’s often find this out after relocation when the sun is baking their office and realize there are no blinds.  Why? It wasn’t specified in the TI and now the landlord won’t pay for it post construction.

Though it may be difficult to obtain a definitive lease rate without full sets of  construction drawings to price out the job accurately, one option is to ask that the initial lease rate offer a TI estimate per square foot. This might give you a clearer comparison and also allow your broker to have leverage during negotiations after space planning. Once you narrow down your selection of buildings to a few properties, you can work towards comparing the landlord’s cost for their turn-key construction.

The landlord’s goal is to get you in the space as quickly as possible in order to get the rent clock ticking. In a turnkey build out, most landlords control the contractors so you can assume they are squeezing the best prices out of them. To achieve minimum cost and timely construction, it may lead to corners being cut and items often gone missing from the original plans and too costly to fix if identified late in the project.

But what if you want to bid the project out yourself? Some buildings may permit the tenant to take the cash and have the space built out themselves, while other buildings may have an “approved list” of contractors and subs. But the latter is similar to collusion because the approved contractors still work for the landlord. Many landlords can inflate their costs with administrative fees and higher costs such as mechanical, electrical and engineering plans.

You can take the cash for the TI and apply the funds to construct the space yourself. That way you control the construction and obtain all the tax benefits for leasehold improvements. Tenants who manage their own construction projects have complete control over the finished product and generally get more bank for the buck.  Tenants who proceed with construction should also hire a project manager to run the project and act as an advocate/liaison on their behalf.

4 Comments on Tenant Improvements vs. Landlord’s Work Letter

  1. Jennifer Meyer // February 13, 2013 at 10:55 am // Reply

    We found a good way to obtain the build-out the Tenant wants while putting responsibility for finishing work by the occupancy date on the Landlord is to negotiate all the details of the Work Letter for the turnkey as part of the Lease. Remember to check the watts/SF if your business has a lot of equipment and to be specific about your requirements for supplemental cooling.

  2. Lori Allison // February 5, 2013 at 7:33 am // Reply

    Great article!

  3. Great Article! I am going to share it with my LinkedIn Network. One of the services I provide is Guaranteed Maximum Budgets for brokers, landlords and tenants on sketches so they can make their deals.

  4. Diane Vaughn // January 29, 2013 at 11:02 am // Reply

    Since our lease ended Aug. 2012 we decided to proceed with updating our already outdated space – 9 floors total. Our space had the feel of the ’80’s was definitely time to remodel. We hired a project manager to run the project and has been well worth the cost of the consultant.

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