Place Limits on Costs Covered by Tenant Improvement Allowance

When negotiating a lease, most tenants expect you to agree to provide them with a tenant improvement allowance (TIA) to help pay the cost of altering and improving their spaces. And they'll likely expect to use the TIA to pay their “hard costs” (the costs of labor and construction materials), “soft costs” (architectural fees, engineering fees, design fees, consulting fees, and filing fees), and furniture and equipment costs. Ideally, you'll want the TIA to cover only the tenant's hard costs, because you'll want your money to be used primarily to upgrade and improve the space. In addition, the tenant might let its soft costs and furniture and equipment costs get out of hand because the TIA will cover them. Those costs could eat up too much of the TIA, leaving the tenant without enough money to complete its improvements.

Although you may seek to exclude all but hard costs from the TIA, most tenants will resist that. But there are ways to protect the TIA from being drained by costs that aren't hard costs. New York City attorney Nancy Ann Connery recommends adding two non-hard-cost limits to your TIA payments clause and requiring a line item budget of estimated construction costs from the tenant. We'll give you Model Lease Language that includes those limits and the budget requirement.

Two Limits for TIA Payment Clause

Add the following two limits to your TIA payments clause so the tenant won't use up the TIA to pay costs that aren't hard costs:

Set cap on soft costs. Set a cap on the amount of soft costs that the TIA will cover, advises Connery. Try to keep the cap as low as possible. For example, she recommends setting a cap on soft costs of 10 percent of the TIA [Lang., par. a]. This cap will give the tenant an incentive to keep its soft costs down, as it will be responsible for footing most of the bill for those expenses.

Exclude tenant's personal property from TIA. In return for allowing the TIA to help pay for some of the tenant's soft costs, get the right to exclude the entire cost of the tenant's furniture and equipment from the TIA, says Connery. Let the tenant pay that cost from its own pocket [Lang., par. b].

Budget of Estimated Costs

Before the tenant starts construction of its improvements, require it to give you a line item budget setting forth its estimated construction costs—including both hard costs and soft costs, suggests Connery [Lang., par. c]. This will give you a better idea of which costs the tenant expects the TIA to cover and how much of the TIA the tenant will use up. Getting the budget before construction gives you an opportunity to isolate any cost that you believe the TIA shouldn't fully cover and to ensure that the TIA isn't used to fund that cost, says Connery. It will also provide you with a road map that will help you determine during the course of the construction whether or not the tenant's construction is on track, she adds.

Add Lease Language

To get the two limits and the budget requirement, make sure your lease's TIA payments clause begins with this language, advises Connery: CLLI0112

Model Lease Language

a. Landlord shall contribute up to $[insert amount] (“Landlord's Contribution”) toward the cost of alterations and improvements made by Tenant to the Premises to prepare the Premises for Tenant's initial occupancy (the “Initial Alterations”). Such costs shall include “hard” construction costs for labor and materials (“Hard Costs”) and “soft” construction costs, such as architectural fees, engineering fees, design fees, cost of consultants, and filing fees (“Soft Costs”). Notwithstanding the foregoing, Landlord shall not be required to contribute toward Soft Costs an amount in excess of [insert percentage, e.g., ten percent (10%)] of Landlord's Contribution.

b. No portion of Landlord's Contribution may be applied toward the cost of Tenant's personal property or equipment, including, but not limited to, furniture, computers, and telecommunications equipment.

c. Prior to commencement of construction of the Initial Alterations, Tenant shall submit to Landlord a line item budget setting forth estimated construction costs (including both Hard Costs and Soft Costs).

Practical Pointer: A tenant may want hard costs to specifically include the costs of installing computer and telecommunications conduit, and telephone switching equipment, notes Connery. Although such items may not be usable by a future tenant, you may have to give in on this point. Also, the tenant may want the lease to classify the cost of a construction manager as a hard cost, rather than a soft-cost consulting fee. That request is reasonable, notes Connery.

CLLI Source

Nancy Ann Connery, Esq.: Member, Schoeman, Updike & Kaufman, LLP, 60 E. 42nd St., New York, NY 10165; (212) 661-5030; nconnery@schoeman.com.