Require Tenant to Reimburse You for Unamortized Improvements

When a tenant violates a lease that subsequently ends in termination, shopping center and office building owners might be looking at hefty costs that at least initially will fall on them. Lost rent and the cost and effort of finding a replacement tenant can reach into the tens of thousands of dollars. So can damage left by the tenant, or the ramifications of a key tenant’s departure violating the requirements in other tenants’ leases that it stay open and operating.

The good news is that if the lease has been properly drafted, you could be reimbursed for those costs later if this happens to you. The bad news is that, even in that event, there are costs that inevitably some owners might never recoup despite a lease that is owner favorable. And in the case of an erstwhile tenant or a lease with loopholes, you could be on the hook for very expensive items.

Tenant improvements are a perfect example. They can be extremely costly and, because they are often highly customized for the tenant, they aren’t of use for new businesses that move into the space. So it’s important to protect yourself from losing out on tenant improvements that you made or paid for. Here’s how you can avoid cost disputes for tenant improvements.

Understand Stipulation of Costs

A well-drafted lease should give you the right to make the tenant reimburse you for the unamortized part of the improvements—that is, for any part of the cost you haven’t yet gotten back through rent—if the tenant violates the lease and the lease is terminated. But getting the reimbursement you expect may be easier said than done. Chances are, the tenant will fight with you over how much the improvements cost. You could waste a great deal of time and money trying to resolve the dispute.

There’s a simple way to avoid disputes between you and the tenant over the improvements’ cost: Sign a “stipulation of cost” with the tenant. A stipulation of cost is a short agreement between you and the tenant that fixes the exact cost of the tenant improvements. Like our Model Lease Agreement: Avoid Cost Disputes Over Tenant Improvements, yours should include at least five key pieces of information. And make sure that you attach the stipulation of cost to your lease.

So why is a stipulation of cost such an effective tool? Disputes over the cost of tenant improvements, if the tenant violates the lease early, are rare if there’s a signed stipulation of cost—because you’ve agreed on the cost of the tenant improvements. It’s easy then to calculate how much the tenant must reimburse you, by using a simple, straight-line amortization method.

A stipulation of cost should:

• Give your name and the tenant’s name;
• Identify the lease to which it applies;
• Indicate that it’s being signed as required by the lease;
• Say—that is, stipulate—the cost of the tenant improvements, as agreed to by you and the tenant; and
• Include signature lines for you and the tenant.

How to Draft Stipulation of Cost

To put a stipulation of cost in your lease, follow these two steps:

Step #1: Add lease language. Include a lease requirement in which you and the tenant agree to sign a stipulation of cost that will then be made part of the lease. In the meantime, you can attach a blank stipulation agreement as an exhibit now. Require the stipulation of cost to be signed and returned by you by a set date—for example, no later than 30 days after the tenant opens for business. And if the tenant doesn’t return the stipulation of cost by that time, the tenant will have violated the lease.

To do this, add the following language to your lease when it discusses tenant improvements:

            Model Lease Language

Landlord and Tenant agree to execute a “Stipulation of Cost,” in the form attached hereto as Exhibit [insert number], no later than [insert number, e.g., 30] days after Tenant opens for business, for the purpose of stipulating as to the cost of the Tenant Improvements. Upon the execution of such Stipulation of Cost, the parties shall attach it to this Lease and it shall be made a part hereof. If Tenant fails to execute the Stipulation of Cost within the time period required herein, such failure shall constitute a default hereunder.

Remember that you’ll need to address in the lease how long the amortization will be.

Step #2: Sign and attach stipulation of cost. You and the tenant should sign and date the stipulation as soon as the work on the tenant improvements is completed and the cost is known. The signed stipulations should then be attached to your lease as an exhibit.