Abandonment Studies

The retirement of landlord funded tenant improvements should be written off at lease termination.

The beginning of a lease is the most expensive time for the landlord. Brokerage and tenant improvement are significant outlays that will be recovered against future rental income.

Tenant improvements in particular can be very costly depending upon the build-out required. Unfortunately, most of the tenant improvements are recovered over a 39-year, or for a limited time, 15-year period. Thus, landlords experience a cash squeeze upon execution of a new lease. To help ease this timing difference, a landlord can write-off abandoned leasehold improvements and lower their income tax liability. This reduction in the income taxes due can be used to fund new/replacement lease execution costs.

What is Required to Support the Abandonment Loss?

The key to unlocking the benefit associated with an abandonment loss is a detailed engineering-based cost segregation analysis. This can be completed upon purchase, during the construction phase, or through the use of post-construction contemporaneous information. Landlords are best served by the establishment of a consistent practice of segregating costs by tenant for all acquisitions and build-outs to ensure that a timely election of the abandonment loss occurs as part of the normal operating procedures.

Abandonment Loss Case Studies

Tenant

Law Firm

Retail

RSF

15,000

3,000

Building Standard

$75.00

$20.00

% of Real Property

80%

75%

Total Build-out Cost

$1,125,000

$60,000

Term

10 Years

7 Years

Write-Off at Termination

$297,000

$22,500

 

If a new tenant is identified and the landlord irrevocably abandons the existing tenant improvements, the landlord is entitled to an abandonment loss equal to the adjusted basis of the original build-out (IRC ¤168(i)(8)(B)).