Landlord Concessions and Commercial Leases: Is There a Catch?

May 10, 2022 Don Catalano Don Catalano

When entering negotiations for your commercial lease, your landlord may offer concessions to sweeten the deal for you. These inducements can bring on a win-win for tenants and landlords. Landlords can land a creditworthy tenant in their property and tenants earn extra perks that may benefit their budget. 

How do we know this? We work for tenants.  

 

As tenant reps, we have been present in commercial lease negotiations for the last three decades. By solely protecting the interests of our corporate clients, we can quickly identify when your lease is and isn't beneficial.  We have seen how improperly negotiated concessions can cost tenants more than they thought they were worth. 

 

So if you are signing a new lease and want to be prepared to secure your most advantageous deal, read on. We will outline what to expect with landlord concessions and why you may want to look at how they may affect your budget. The most common inducements are: 

  1. Rent Abatement  
  2. Tenant Improvement Allowance 
  3. Relocation Allowance   

Concessions 

Landlord concessions can take many forms. As a result, there is no particular clause in which all concessions will be included. Instead, they are often woven throughout the lease to encourage tenants to sign.

 

sign lease

 

Rent Abatement  

Rent abatement is a period in which the lease term has begun, but the tenant does not make payments. The length of this “free rent” is dependent on many factors, including: 

  • Your ability to negotiate with your landlord  
  • Supply and demand of the real estate market in your area 
  • The length of your lease
  • Your creditworthiness as a tenant 

 

Typically, rent abatement will occur at the beginning of a lease. This is very appealing for tenants looking to negate the initial cost of moving.  

 

Landlords are usually willing to offer rent abatement, specifically for long-term leases. In order to solidify a deal with a tenant for 10+ years, a landlord is willing to give up a reasonable period of payments. Your landlord is ensured that they will have a steady flow of appreciating income, so they do not necessarily take a loss.  

 

landlord budget

 

With rent abatement, landlords are happy because they can successfully land a tenant, and the tenant is satisfied because their first-year budget will experience some relief.  

 

Is There a Catch? 

With rent abatement, there really is no catch. A skilled tenant rep will do everything they can to ensure that you receive a rent abatement period. Why? It is an excellent method to secure an overall lower net effective rent for your commercial lease. 

 

The only real case in which free rent would have the opposite effect is if the rate of inflation is under the escalation rate. Even then the rent increase would be incremental.

 

Another caveat to consider with rent abatement is its timeline. Make sure your occupancy date marks the beginning of your free rent. Then, you won't use up your months of abatement on building out the space.  

 

To ensure this, make sure that there is a stipulation in your lease that the free rent begins once the build-outs are "substantially completed."

 

under construction

 


Tenant Improvement Allowance  

To compel a prospective tenant to sign their lease, a landlord may agree to cover the construction cost (at least in part).  

 

Your landlord may offer an allowance that usually provides funding to upgrade the space to building standard quality. However, in some cases, the landlord will provide an above-building standard allowance to further encourage the tenant to sign the lease. The landlord may agree to cover environmental enhancements that go beyond basic materials or shell conditions.

 

Like any other concession, your tenant improvement allowance will depend on many factors: 

  • Property competition in your area
  • Price of goods and services
  • Inflation rates
  • The length of your lease
  • Your landlord’s preferred landlord/ contractor
  • Other offered concessions
  • Whether your building is single or multi-tenant
  • The initial state of the building  

 

Is there a Catch? 

The Tenant Improvement Allowance (TIA) is an excellent way for tenants to mitigate the cost of matching a new space to their needs. Think of it as a fund for customizing the property to meet the tenant's specific needs. Know that the landlord, too, can benefit from making their space more livable.

 

If enhancements are made like lighting and HVAC, those features will likely still be in place after the tenant leaves. As a result, the landlord can list the property with a more expensive base rent for the next inhabitant.  

 

contractor handshake

 

The catch with TIA is where the dollars start. To avoid getting taken advantage of, make sure your landlord is starting your allowance at the point of a warm, vanilla shell. With this property condition, the building is equipped with basic fixtures, and you won’t be responsible for the construction costs of their building.  

 

Any costs that go beyond the allowance will fall under your responsibility so make sure you know what you're paying for.

 

Another point to consider is that landlords will usually ensure that any delays or unforeseen expenses come at the tenant’s cost during the construction process. Be wary of any stipulation in your lease that leaves you responsible for budgetary setbacks. 

 

If improperly negotiated, the tenant improvement allowance can allow the landlord to cast the renovation budget responsibilities on the tenant. If you are not careful, you could be stuck paying hundreds of thousands of dollars to get a building that you don’t own in working condition. To avoid this, work with a real estate expert. A skilled tenant rep will help you identify your rights with the tenant improvement allowance and what would be the most beneficial to your budget. 

 

Relocation Allowance  

In some cases, the landlord may provide a relocation allowance as an inducement. With this concession, the landlord will give the tenant a dollar per square foot amount devoted to relocation costs. This could include anything from hiring movers to buying new furniture or computer systems. 

 

move office

 

The allowance can be provided as cash or credit. If with credit, the tenant can use any leftover funds to cover rent in a similar fashion to rent abatement. 

 

Is There a Catch?  

Well, any cash or equivalents are considered income. Therefore, the tenant may be taxed on their relocation allowance. Even if landlords offer a new computer system or furniture as concessions, these features are considered gifts or cash equivalents. As a result, they are also considered part of the tenant’s taxable income.  

 

For big companies, this extra taxable income should not be anything too severe. Accepting a relocation allowance will likely not break your budget (but it is something to be aware of). 

 

To avoid getting taxed though, you may have options. Your tenant rep can push for the landlord to retain ownership rights of the features they provide. If the landlord considers the relocation allowance an expenditure, it will fall under their budget and not yours.  

 

Why Tenants Should be Careful With Landlord Concessions 

If improperly negotiated, any lease clause has the potential to cost you valuable CRE dollars. That is why it is so critical to be prepared with a thorough cost and benefit analysis to determine how concessions will impact the overall value of their lease.

 

Tenants should measure the net effective rental rate by subtracting the concessions from the base rent. With this, tenants can effectively measure the actual economic value of a lease.  

 

How a Tenant Rep Can Ensure Your Concessions Benefit You  

Tenant reps have seen it all when it comes to lease negotiation. They know the tactics landlords employ to look out for. This market knowledge will allow you to avoid budgetary nightmares.  

 

Tenant reps also understand the nuances of landlord concessions. They know the techniques that can land you a more beneficial concession package, like leveraging your tenancy against competition or signing for a longer-term.

 

 

Working with a tenant rep will allow you to enter negotiations stress-free, and ensured that your rights are being fully enacted.  

Check out this article to learn more about why you shouldn’t negotiate without a tenant rep.

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