Leasehold Improvements

QIP's Road from 39-Year Error to 15-Year Opportunity

The story of Qualified Improvement Property's depreciation life is one of legislative intent colliding with a drafting error. The Tax Cuts and Jobs Act of 2017 intended to give QIP a 15-year recovery period, making it eligible for 100% bonus depreciation. Due to a clerical omission in the conference report, QIP was accidentally assigned a 39-year life, disqualifying it from bonus depreciation entirely.

The CARES Act of 2020 retroactively corrected this error back to January 1, 2018. Taxpayers who had depreciated QIP over 39 years in 2018 and 2019 could file amended returns or accounting method changes to claim the faster 15-year schedule retroactively—and many commercial tenants and landlords recovered tens of thousands of dollars in deferred deductions through this correction, one of the more significant retroactive real property tax adjustments in recent history.

Tenant Improvement Allowances: Tax Planning at Lease Signing

Lease negotiations routinely involve tenant improvement allowances that transfer significant capital between landlord and tenant. The tax treatment requires careful analysis at lease inception—not at tax filing time. When a landlord provides a $400,000 TIA for a new tenant's office buildout, three possible tax treatments exist depending on how the arrangement is structured.

If the TIA functions as a lease incentive and the tenant controls construction, the tenant reduces their depreciable basis by the TIA amount—depreciating $400,000 less. If structured as rent abatement, the tenant recognizes no income but must reduce basis dollar for dollar. If the TIA is a bona fide reimbursement with clawback provisions tied to lease term, it may be treated as a tax-free capital contribution—though this requires careful documentation and often invites IRS scrutiny. Selecting the right structure at signing avoids costly recharacterization later.

Lease Renewal and the Depreciation Reset

Tenants who negotiate early lease renewals before improvements are fully depreciated retain a planning opportunity: the IRS allows tenants to continue depreciating existing QIP on the original 15-year schedule through renewal periods without acceleration. New improvements made at renewal start a fresh 15-year clock.

A tenant renewing 5 years into a 15-year QIP depreciation schedule retains 10 years of remaining deductions on the original improvements while beginning new 15-year deductions on any additional buildout costs—compounding the depreciation benefit without triggering recapture or basis reset on the original work. This renewal strategy is particularly valuable for tenants who made significant buildout investments and are negotiating lease extensions in advance of expiration to preserve both the space and the tax benefit.