What are Leasehold Improvements? (Complete Guide – 2026)

If you are renting a commercial space as a small business, you may need to adjust or modify it according to your business requirements. The change or upgrade you make to improve the rented property is called a leasehold improvement.

Let’s explore what they are, whether they are amortised or written off over time, and how to record or account for them. Read until the end to learn more.

Understanding Leasehold Improvements

Also known as tenant improvements, they refer to the changes, additions, or fittings made to a rental property based on the requirements or needs of the tenant. Here are some examples of these modifications or upgrades.

These improvements are usually carried out or completed by either the tenant or the landlord, but in most cases they are paid for or financed by the tenant. Normally, the useful economic life or expected lifespan of these improvements is 5 to 10 years. Therefore, you need to calculate amortisation or cost allocation according to the economic life or duration of the rented space.

Types of Leasehold Improvements

Leasehold improvements fall into several groups or categories depending on the type of property, business sector, and tenant needs.

1. Structural Improvements

These involve permanent or long-term changes to the property’s internal structure or layout. For example:

• Installing or relocating walls and partitions
• Strengthening flooring to support heavy equipment
• Upgrading ceilings or staircases

Structural improvements are usually fixed or permanent and cannot be removed or detached easily. Because they often increase or extend the property’s useful life, they may be subject to more detailed or stricter depreciation rules.

2. Electrical and Mechanical Systems

Modern businesses often require more facilities or additional systems than what the original property offers. Improvements may include:

• Upgraded lighting systems
• Extra power sockets or data wiring
• Heating, ventilation, and air conditioning (HVAC) systems
• Improved security systems such as alarms, CCTV, or access control

These improvements directly support or assist daily business activities and usually qualify as capital expenditure or long-term investment costs.

3. Interior Finishes and Fixtures

These are the most common or frequently seen types of leasehold improvements. They include:

• New flooring such as tiles or carpets
• Painting and plastering walls
• Installing counters or reception desks
• Built-in cupboards or storage units

Although some of these items may appear small or simple, they are still considered improvements if they become permanent parts of the property and cannot be removed without causing damage.

4. Specialised Business Fit-Outs

Certain industries require highly customised or specially designed improvements, including:

• Commercial kitchens in restaurants
• Treatment rooms in dental clinics or medical practices
• Changing rooms or shower areas in gyms
• Soundproofing for studios

These improvements are important or necessary for the business model and can involve large or significant upfront costs.

5. Accessibility and Compliance Upgrades

Sometimes improvements are completed to ensure compliance or adherence with UK building regulations or health and safety rules. For example:

• Installing wheelchair ramps or lifts
• Improved washroom or restroom facilities
• Fire protection systems
• Emergency exits

Even though these changes may be legally required or mandatory, they are still classified as leasehold improvements and are depreciated or amortised accordingly.

Improvements to Leasehold Property vs Repairs

It is important to understand that improvements increase or enhance the value of a property (capitalised and depreciated), while repairs restore or fix the property to its original condition (deducted as an expense).

Example:

Replacing broken lights = repair (expense)
Installing a completely new lighting system = improvement (capitalised)

Who Pays for Leasehold Improvements?

Who covers the cost of leasehold improvements depends on or is determined by the lease agreement. The arrangement can be one of the following:

Tenant-funded:
This is the most common or usual situation. The tenant pays for the fit-outs and records them as leasehold improvements in their accounts.

Landlord-funded:
Sometimes landlords provide a fit-out allowance or financial contribution for the initial improvements. In this case, the landlord may capitalise or record the cost as part of the building.

Shared costs:
In some situations, the cost of improvements may be shared or divided between the tenant and the landlord. This depends on the terms or conditions of the lease agreement and the type or nature of the improvements.

Accounting for Leasehold Improvements: How Does It Work?

From an accounting point of view, leasehold improvements are treated as fixed assets or long-term assets rather than immediate expenses. This means you do not deduct or claim the entire cost at once. Instead, you record or list the cost on your balance sheet and spread it over its useful life or benefit period through depreciation or amortisation.

This approach is important because it matches or aligns the cost of the improvement with the period you use or benefit from it. It also ensures accurate or reliable profit reporting.

Are Leasehold Improvements Amortised?

Improvements made to a rented property by a tenant are generally amortised or written off gradually, rather than depreciated. This is because the tenant does not own or possess the property, and the improvements legally become part of the landlord’s building once they are installed.

The tenant only has the right or permission to use those improvements during the length or duration of the lease.

For example, if a tenant signs a 10-year lease and installs partition walls expected to last 10 years, but the lease ends in 4 years, the cost must be amortised over 4 years, which is the shorter period. When the lease ends, the partitions remain with or under the ownership of the landlord.

In this way, leasehold improvements are written off over the shorter period between their useful life and the remaining lease term, unlike movable assets such as furniture or equipment which are depreciated separately.

How to Account for Leasehold Improvements?

The cost of purchasing items for leasehold improvements is recorded as assets or capital items during the lease period. To record these properly in your financial records, you need a basic understanding of accounting rules or principles and familiarity with accounting software or bookkeeping systems.

With this knowledge, you can follow these steps:

First, create a new asset account on your balance sheet called leasehold improvements, and also create a contra account named leasehold improvement depreciation to monitor its depreciation.

Check your accounting software’s guidelines or instructions for adding new accounts.

Next, collect or combine all related costs for the improvement.

Enter the total cost in your accounting records. Normally, the transaction is debited to the asset account and credited to the credit card or payment account.

The new asset will appear on your balance sheet until the end of the year when a portion of it is expensed or recognised as depreciation.

To record depreciation, debit the depreciation expense account and credit the leasehold improvement depreciation account.

By following these steps, you will be able to see the original cost or initial value of the improvements and keep track of your expenses and assets separately. It is also important to keep all receipts or invoices related to the improvements so you can provide proof or evidence to HM Revenue and Customs if required.

Once all entries are recorded, you should prepare a balance sheet and income statement to ensure your records are accurate and correct.

What Happens to Leasehold Improvements When You Move?

If you leave the property before the lease ends, the improvements normally remain with or transfer to the landlord and cannot be taken away or removed.

From an accounting perspective, any remaining net book value must be written off or removed in your profit and loss account.

For example:

You spent £50,000 on fit-outs.
You have already depreciated £30,000.
The remaining £20,000 carrying value is written off when you move out.

This is treated as a loss on disposal.

What Happens When the Lease Expires?

At the end of the lease period, leasehold improvements usually revert or transfer to the landlord. The leaseholder may have the option to purchase the freehold, renew the tenancy agreement, or extend the lease. This depends on the terms and conditions of the lease and any relevant legislation.

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