How Commercial Real Estate Brokers Work

Many small business owners find it invaluable to enlist a professional real estate broker's help in finding rental space. Having a broker can be especially important if your landlord will have one, your needs are unique, or space is at a premium. But brokers can be an expensive early investment for new business owners. It's important to understand what a real estate broker can do for you to help you get the most out of your commercial lease.

Types of Commercial Real Estate Brokers

Brokers can play different roles in landlord-tenant transactions. Some brokers work exclusively for tenants, some for landlords, while others are indiscriminate. You'll also find some brokers that act as dual agents, representing both a landlord and a tenant in the same leasing transaction. It's a good idea to understand the various types of arrangements before you start looking for a broker or sign a contract with one.

Brokers Who Work for Landlords

In a traditional commercial leasing situation, the landlord lists available space with a broker who then goes out looking for tenants. If a lease gets signed, the landlord pays the broker a commission, typically 4-6% or so of the rent paid over the life of the lease. The broker with whom the landlord lists the property is called the listing broker. If another broker (a nonlisting broker) brings in a tenant and a lease gets signed, the two brokers usually split the commission.

Under this traditional way of doing business, the listing broker is the landlord's agent and is duty-bound to work out a lease that's as favorable as possible to the landlord. Legally speaking, even a nonlisting broker is the landlord's agent unless you and that broker work out something different.

Obviously, it's crucial for you to know right from the get-go if the broker you're dealing with is obligated to look out for your interests. Laws in most states require brokers to tell you whom they're working for.

Brokers Who Work Exclusively for Tenants

If you're uncomfortable dealing on your own with a landlord and the landlord's broker, you can engage your own broker, who'll represent solely your interests. A broker who works exclusively for you has one main assignment: to get you a good deal on a space that meets your needs, not to help the landlord quickly fill the building or get top-dollar rent.

An experienced broker can help you:

• evaluate the financial consequences of the landlord's lease terms
• spot hidden charges that translate into higher rent, and
• negotiate the best terms in your lease.

The main disadvantage to hiring your own broker is that you might have to pay all or a portion of the commission (unless you negotiate a different payment plan, such as a flat fee). If your share of the commission is half of 5% of the rent over the life of your lease, you could be looking at a significant amount of money.

In addition, because the broker doesn't usually earn any money until a lease is signed, brokers have an interest in closing a deal sooner rather than later. But here, at least, you'll find that market forces will put pressure on brokers to put their clients' best interests first.

Brokers Who Work for Landlords and Tenants

The next best thing to engaging a dedicated tenant's broker is to find a reputable broker who works for both landlords and tenants alike. You'll have an easier time finding this kind of broker to work for you, as opposed to finding a broker who works exclusively with tenants. Such arrangements will work just fine when your broker is showing you properties represented by brokers in other offices.

However, the situation gets cloudy if your broker's own office has taken listings for spaces that you want to see. The broker is duty-bound to find you the best space, regardless of who has the listing, but is also committed to contributing to the success of their office. You'll want to address this potential conflict in your written contract with the broker (discussed later).

Brokers Who Are Dual Agents

A final option, allowed in some states, involves asking the broker to step away from their role as an advocate and instead assume a neutral stance. This kind of broker is known as a "dual agent."

Because this type of broker's role is limited to attending to mechanical details and helping to make sure the transaction flows smoothly, the benefits of using a dual broker are limited. The dual agent doesn't serve as your champion. So you won't really get much, if anything, in the way of useful advice or practical guidance.

Finding the Right Commercial Real Estate Broker

Finding a commercial real estate broker isn't all that different from finding a good doctor, lawyer, or dentist. A hefty application of common sense, professional and personal connections, and some independent research usually does the trick. The same method works when looking for a broker.

Here are the qualifications and credentials to look for in a commercial real estate broker:

• Expertise in commercial real estate. Make sure the broker you choose is experienced in helping tenants find office, retail, and other commercial space. You don't want a broker who works primarily with houses, condos, and apartments.
• Experience in representing tenants in commercial real estate transactions. You'll ideally want a broker who consistently works only with tenants. But it could be difficult to locate such a broker, especially if your business is located in a small community. In your options are relatively limited, you might need to find a broker who works for landlords and tenants.
• An established business in your geographical area. Look for someone who's been in commercial real estate long enough to know how deals are done and how landlords and their brokers work. In addition, experienced and successful brokers will have the financial stability to enable them to firmly put your best interests at the forefront. Remember, in most situations, a broker gets paid when the deal is done, according to the size of the rent. A broker who isn't hungry will be less tempted to rush negotiations or settle for a more expensive result when patience might produce something better for you.

How to Find a Commercial Real Estate Broker

Other commercial tenants in your community will be the best source of leads for brokers. Ask businesses if they've engaged a broker and whom they would recommend. Look for tenants who appear to be running a healthy business (chances are that their good business sense was at work when they chose a broker, too).

You can narrow your field of inquiry by approaching tenants whose businesses are similar to yours. In larger cities, brokers might've divided the market into niches, with some specializing in office space, others concentrating on restaurants and food stores, and others working mainly with light industry. For example, if you're intending to open an art gallery, you'll want to deal with a broker who's familiar with the commercial space that's appropriate for a gallery. The owner of a currently operating gallery could've found just the broker.

In some cities, brokers might even concentrate on specific neighborhoods. If you want to locate in a particular area—to take advantage of adjoining businesses, traffic patterns, or expected rents—it makes sense to look for brokers who've already done deals in the neighborhood.

Try to get recommendations from multiple tenants and businesspeople. You might find that the same name or names pop to the top of everyone's list. Once you've whittled down your list to two or three promising names, you'll want to ask your contacts about the broker's strong and weak points before you interview and choose a broker.

Avoiding Conflicts of Interest With Your Broker

Your broker is indeed duty-bound to find you the best space at the best terms. But you can't ignore the fact that the broker or others in the broker's office will represent other tenants along the way—some, perhaps, with space needs similar to yours. And unless you've retained a tenant's broker exclusively, the brokerage (broker's office) might have landlord clients, including some who might have space that you'll want to see.

In either situation, the broker can end up representing two competing parties (two tenant-clients or one tenant-client and one landlord-client). Or, your broker will realize they're representing one party (you) while an associate at the next desk is representing the other (the landlord). You can address these potential conflicts in your contract with the broker.

Buyer-Broker Representation Agreements

Just as there's no such thing as a standard lease, there's no such thing as a standard broker's contract. It's all negotiable. How negotiable your contract is will depend on a variety of factors, including:

• the size of your business
• your industry, and
• the local real estate market.

Make sure all important terms are in writing, especially those regarding payments, conflicts of interest, and the exclusivity of your arrangement. If your broker is performing more services than just showing you space and helping to negotiate a lease, be sure additional duties (such as getting traffic flow data, utility bill information, or zoning details) are also covered in the contract you sign with the broker.

Your contract should specify whether the broker has an exclusive relationship with you or a nonexclusive one.

Exclusive Agreements With Your Broker

Under an exclusive agreement, the broker earns a fee whether you sign a lease through the broker, someone else, or even on your own. Most brokers will prefer this kind of exclusive relationship because it'll commit you to seriously using the broker's expertise and contacts. If you sign an exclusive agreement with a broker, you'll have to pay the broker when you lease any space.

If you have any choice in the matter (and you often won't), avoid exclusive contracts unless you have high confidence in the broker's ability to deliver a rental.

Nonexclusive Agreements With Your Broker

Under a nonexclusive agreement, you owe the broker a fee only if you sign a lease through the efforts of the broker. The broker doesn't earn a fee if you find space on your own.

If you can manage to negotiate a nonexclusive agreement with a broker, you'll have the most freedom and flexibility in your rental search. But nonexclusive agreements are harder to come by and usually require some type of leverage on your end.

Hybrid Agreements With Your Broker

If you're interested in renting space in a particular building or shopping center, you and the broker can agree that you'll owe the broker a fee only if the broker succeeds in delivering space in the property specified in the contract. This arrangement will work well for you if you'd like to be able to do some space-finding on your own, but want an advocate when it comes to certain properties.

How Commercial Real Estate Brokers Get Paid

Before you hire a broker, you'll probably want to know how much one will cost. By understanding how commercial real estate brokers are paid, you can determine whether you can afford a broker and how to budget for one. Most brokers are paid a commission over the term of the lease. But you can sometimes arrange other fee-based payments.

Depending on the fee method you agree on, make sure your contract with your broker covers all money-related details, such as when the payment is due and what additional expenses you might owe the broker (such as the broker's travel).

Who Pays the Broker: Landlord or Tenant?

Typically, either the landlord or the landlord and the tenant together will pay the broker's commission or fee. If only the landlord uses a broker (the listing broker), then usually only the landlord alone will pay their broker's fee. But if you and the landlord each use a broker, you and the landlord might split the brokers' commissions.

Sometimes, the landlord might pay the entire broker's fee regardless of whether you're separately represented by your own broker. In that case, you're incentivized to have your own representation, courtesy of the landlord. But be aware that even though the landlord technically pays your broker's fee, you'll likely pay the difference in other ways.

Brokers Are Paid Commission When You Sign the Lease

The most common type of payment arrangement for a commercial real estate broker is a commission rate. When a broker is paid commission, the broker earns a percentage (typically, 4-6%) of the rent over the life of the lease. More precisely, the broker's fee goes up as the tenant's rent, square footage, and lease term increase.

Let's look at possible commission scenarios based on rent, square footage, and lease term.

As you can see from the table above, a higher price per square foot, a larger space, or longer lease term can all raise the rent. A higher rent means a larger commission for the broker, and a larger expense for you.

While a broker must act in your best interests, the commercial real estate game isn't a perfect system. You might find yourself on the hook for a long-term lease or stuck with space you don't need. Keep all these variables in mind when you budget out your business expenses.

Sometimes, a broker will ask for an advance against the hoped-for commission (called a retainer), which is deducted from the commission once it's earned. If you don't sign a lease, the broker must return the retainer.

Fee Arrangements With Commercial Real Estate Brokers

Fixed fee arrangements avoid the conflict of interest inherent in paying your broker a commission. You might be able to negotiate either:

• A flat fee. You pay a fixed amount such as $2,000, for the broker's efforts in looking for space for you, regardless of the success at finding suitable space.
• A fee based on success. You pay a fixed amount only if the broker's efforts result in your signing a lease.
• An hourly fee. You pay by the hour for the broker's time.

You and the broker aren't limited to choosing only one payment method. For example, you might agree to pay an hourly fee that'll be credited toward a success fee if you ultimately sign a lease. Again, the broker's compensation method is part of the negotiation process.