What Is a Tenant Improvement Allowance?
As a business owner, understanding what a tenant improvement (or TI) allowance is, is essential to inform the choices you’ll make when selecting a new commercial space and negotiating your commercial lease. The TI allowance will also define how much of the cost of your commercial build-out will come out of your pocket.
June 27, 2019
And, how much does a commercial build-out cost?
Finding a new space for your business can be challenging, as you’ll want to balance all sorts of factors and try to make the numbers work for your business. (Read more about what to keep in mind when looking for a commercial space.) One of the most important things to understand is what your tenant improvement (TI) allowance will be.
Wait, you may say, what the heck is a tenant improvement allowance?
Tenant Improvement Allowance
When you decide to move into a new commercial space, it is more than likely that your landlord knows that the space will need some work to make it appropriate for your business. To do this, they typically propose an allowance of money, usually based on a cost per square foot, that they will give you to pay for the work. It is usually nowhere near enough to complete the work, as they are looking for you to make an investment in the space, as well, to show how serious you are about the business.
So how do you know how much to ask for or how much you might get? This will come as no surprise but, it is complicated.
From a landlord’s point of view they want a few things to have a successful space:
- They want a well-established brand that has a history of staying in business. The more established you are, the safer the bet is, and the likelier that the TI allowance will be higher. This is because there is less risk that all the money they are paying you to build out a custom space will be empty in a year when you go out of business. They’re then left with an expensive custom space that no other tenant really wants.
- A good landlord also knows how to factor in their location and how a great tenant will improve their building. What this means, and it is incredibly complicated, is that, sometimes, if they’re trying to attract great tenants, they’re willing to increase the TI allowance to attract tenants who otherwise wouldn’t pay to build out a space that maybe isn’t their first location.
- Alternatively, if a space is in a great location and very high in demand it is likely you’ll get a lower TI allowance. Supply and demand.
- Depending on your business model (office versus coffee shop versus high-end bar, for instance) different TI allowances will be considered for that space.
- In very rare occasions, a landlord might pay for almost all of your build-out, although this would typically be in a space that the landlord is having trouble renting or where they desperately want one sort of tenant.
- A lease will typically have some sort of oversight and review of the drawings built into it if they are giving you a hefty TI allowance. Be sure that you understand how that works and how it may limit your design freedom.
As a tenant, you’ll want to carefully consider all of the factors that go into your business model, such as:
- Depending on how much access to cash you have, a great tenant improvement allowance may let you build out a beautiful space that helps reinforce your brand. If that means that you are slightly outside of your ideal location, how does that impact your ability to do business?
- If the allowance is smaller, how will you make the most out of your allowance? We recommend going for higher quality in fewer areas rather than spreading mediocrity across the whole space.
- Does your business model really require spending more money on your space? If so, be sure to understand carefully how much cash you have access to, inclusive of your TI allowance, and don’t convince yourself you can make it work if you know you just don’t have the money for it. Some brands not only benefit from enough budget to create a high-end design, but require it. Thinking you can skip a necessary step may be the call that closes your business.
- Be sure you understand what the costs are of building out your space. What will the “shell” of the space look like when you get it? Will HVAC be routed to your space? Are there heaters and decking in the outdoor areas? If you want nice sliding doors at the perimeter, is that cost on you or someone else? Has electrical been provided to the space? Do you have to build out new bathrooms or are common ones available?
There’s certainly a lot to consider from both the side of the landlord and that of the tenant.
Cost of a Commercial Build-Out
As of mid-2019 in Seattle, a typical (if there can be such a thing) tenant allowance in a new building is between $50 and $100 per square foot. Given that new construction for a commercial space or restaurant can easily hit $150 to $250 per square foot, you’ll have to prepare to come up with a lot of the money on your own. (Obviously, things can be done for less or a lot more.) Additionally, if you’re able to do a lot of the work yourself, you can cut costs down considerably. The reality of this situation, though, is far more complicated than you may realize. I don’t know of a single business owner who has done the work themselves on a space, who would commit to doing the work themselves on a second space, as it is grueling work, will absolutely push your schedule back and delay the opening of your business, and the time you spend building out your business (and not building your business) is an opportunity cost. Decide how much money and sleep you have or want and plan accordingly.
When you start your design process, be clear with your design team about what your all-in budget is and they will help you match that with your brand and the design of the space. If you’ve negotiated an appropriate TI allowance, you’ll have a strong base on which to build your business.