How to Account for Tenant Improvements
Define tenant improvements., Identify leasehold improvements., Account for tenant improvements and leasehold improvements., Learn the difference between depreciation and amortization., Expense leasehold improvements with amortization., Expense...
Step-by-Step Guide
-
Step 1: Define tenant improvements.
Tenant improvements are capital improvements made by the landlord.
The landlord makes these improvements to prepare the space for the tenant.
These improvements become permanent components of the property.
They are owned by the landlord, and they remain capital assets of the landlord even when the tenant takes possession of the property.For example, suppose a landlord owns a commercial building that he wants to lease out as office space.
In order to attract the right tenants, the landlord installs floor and wall coverings, ceilings, partitions, air conditioning, fire protection, and security.
The landlord pays for these improvements. -
Step 2: Identify leasehold improvements.
Leasehold improvements include customization of the property made by the tenant.
Examples include shelving, cabinetry, and painting projects.
Depending on how the tenant improvement section of the lease agreement was negotiated, either the tenant or landlord may pay for these improvements.For example, suppose a landlord owns a commercial space and the owners of a hair salon and spa want to rent it.
The owners of the hair salon plan to install carpeting, lighting and walls and doors for private rooms.
The tenant, or the owners of the hair salon, pay for the improvements.
Sometimes, the landlord gives the tenant an allowance, called a tenant improvement allowance, to pay for the leasehold improvements.
This allowance is usually a certain dollar amount per square foot of space.
If the cost of the leasehold improvements exceeds the tenant improvement allowance, the tenant pays for those improvements out of pocket.
Sometimes the tenant alone pays for the improvements.
No matter the payment arrangement, in most cases the improvements become the property of the landlord at the end of the lease. , Tenant improvements and leasehold improvements typically qualify as capital expenditures.
This means that the cost of the improvements exceeds a predetermined limit established by the company, known as the capitalization threshold (which is typically between $5,000 and $10,000).Capital expenses are recorded as an asset on a balance sheet, and then charged to expense over time on the income statements using depreciation or amortization.If the landlord makes tenant improvements, the capital expenditure is recorded as an asset on the landlord's balance sheet.
Then the expense is recorded on the landlord's income statements using depreciation over the useful life of the asset.If the tenant pays for leasehold improvements, the capital expenditure is recorded as an asset on the tenant’s balance sheet.
Then the expense is recorded on income statements as amortization over either the life of the lease or the useful life of the asset, whichever is shorter.The tenant expenses the leasehold improvements with amortization instead of depreciation because the ownership of the improvements reverts to the landlord at the end of the lease.
Therefore, the improvements are treated as intangible assets, for which amortization is used instead of depreciation., Both depreciation and amortization are methods to record the expense of a capital expenditure on an income statement over time.
Some people use the terms interchangeably, although this is not technically correct.
The difference between depreciation and amortization has to do with tangible and intangible assets.Tangible assets are physical assets, such as land, buildings or equipment.
These are recorded with depreciation.
Depreciation is calculated using the useful life of the asset and the salvage value, or the amount for which the asset can be sold at the end of its useful life.Intangible assets are non-physical assets, such as licenses, copyrights, patents or trademark.
These expenses are recorded with amortization., The tenant makes leasehold improvements and expenses them with amortization.
Even though many leasehold improvements are actually tangible assets, such as carpeting or cabinetry, the tenant records the expense for these improvements with amortization.
The reason has to do with ownership of the assets.
Since the landlord retains ownership of the improvements at the end of the lease, there is no salvage value for the tenant.
Therefore, the leasehold improvements are treated as intangible assets and accounted for with amortization., The landlord makes tenant improvements and expenses them with depreciation.
These capital purchases are treated just like other ordinary capital purchases.
They are tangible assets that the landlord owns.
They have a useful life and a salvage value.
The landlord records them as an asset on the balance sheet and then expenses them over time as depreciation on income statements. -
Step 3: Account for tenant improvements and leasehold improvements.
-
Step 4: Learn the difference between depreciation and amortization.
-
Step 5: Expense leasehold improvements with amortization.
-
Step 6: Expense tenant improvements with depreciation.
Detailed Guide
Tenant improvements are capital improvements made by the landlord.
The landlord makes these improvements to prepare the space for the tenant.
These improvements become permanent components of the property.
They are owned by the landlord, and they remain capital assets of the landlord even when the tenant takes possession of the property.For example, suppose a landlord owns a commercial building that he wants to lease out as office space.
In order to attract the right tenants, the landlord installs floor and wall coverings, ceilings, partitions, air conditioning, fire protection, and security.
The landlord pays for these improvements.
Leasehold improvements include customization of the property made by the tenant.
Examples include shelving, cabinetry, and painting projects.
Depending on how the tenant improvement section of the lease agreement was negotiated, either the tenant or landlord may pay for these improvements.For example, suppose a landlord owns a commercial space and the owners of a hair salon and spa want to rent it.
The owners of the hair salon plan to install carpeting, lighting and walls and doors for private rooms.
The tenant, or the owners of the hair salon, pay for the improvements.
Sometimes, the landlord gives the tenant an allowance, called a tenant improvement allowance, to pay for the leasehold improvements.
This allowance is usually a certain dollar amount per square foot of space.
If the cost of the leasehold improvements exceeds the tenant improvement allowance, the tenant pays for those improvements out of pocket.
Sometimes the tenant alone pays for the improvements.
No matter the payment arrangement, in most cases the improvements become the property of the landlord at the end of the lease. , Tenant improvements and leasehold improvements typically qualify as capital expenditures.
This means that the cost of the improvements exceeds a predetermined limit established by the company, known as the capitalization threshold (which is typically between $5,000 and $10,000).Capital expenses are recorded as an asset on a balance sheet, and then charged to expense over time on the income statements using depreciation or amortization.If the landlord makes tenant improvements, the capital expenditure is recorded as an asset on the landlord's balance sheet.
Then the expense is recorded on the landlord's income statements using depreciation over the useful life of the asset.If the tenant pays for leasehold improvements, the capital expenditure is recorded as an asset on the tenant’s balance sheet.
Then the expense is recorded on income statements as amortization over either the life of the lease or the useful life of the asset, whichever is shorter.The tenant expenses the leasehold improvements with amortization instead of depreciation because the ownership of the improvements reverts to the landlord at the end of the lease.
Therefore, the improvements are treated as intangible assets, for which amortization is used instead of depreciation., Both depreciation and amortization are methods to record the expense of a capital expenditure on an income statement over time.
Some people use the terms interchangeably, although this is not technically correct.
The difference between depreciation and amortization has to do with tangible and intangible assets.Tangible assets are physical assets, such as land, buildings or equipment.
These are recorded with depreciation.
Depreciation is calculated using the useful life of the asset and the salvage value, or the amount for which the asset can be sold at the end of its useful life.Intangible assets are non-physical assets, such as licenses, copyrights, patents or trademark.
These expenses are recorded with amortization., The tenant makes leasehold improvements and expenses them with amortization.
Even though many leasehold improvements are actually tangible assets, such as carpeting or cabinetry, the tenant records the expense for these improvements with amortization.
The reason has to do with ownership of the assets.
Since the landlord retains ownership of the improvements at the end of the lease, there is no salvage value for the tenant.
Therefore, the leasehold improvements are treated as intangible assets and accounted for with amortization., The landlord makes tenant improvements and expenses them with depreciation.
These capital purchases are treated just like other ordinary capital purchases.
They are tangible assets that the landlord owns.
They have a useful life and a salvage value.
The landlord records them as an asset on the balance sheet and then expenses them over time as depreciation on income statements.
About the Author
Alice Alvarez
Creates helpful guides on organization to inspire and educate readers.
Rate This Guide
How helpful was this guide? Click to rate: