Brokers get paid in a variety of ways, depending on the type of work they do, the customs of the industry they work in, and the fee agreement they negotiate.
In this article, we'll examine fee arrangements for real estate brokers, insurance brokers, and mortgage brokers. We'll explain which side of the transaction pays the fee, and the mechanics of payment. But first, it's helpful to understand how broker-client relationships differ by industry.
All brokers act as intermediaries who buy or sell goods and services on behalf of someone else. Depending on the industry they work in, they might represent the buyer or the seller (though they sometimes represent both sides), and usually, but not always, they're paid by the party they represent.
Here are some examples of how broker-customer relationships work:
Commission-based pay is the most common fee arrangement for brokers, regardless of the industry. Commissions are typically based on a percentage of the sale price, loan amount, the total rent amount, or policy premium, and the percentage varies by industry.
Flat fees (an agreed-upon, fixed payment for services usually charged annually) are much less common in the real estate, mortgage lending, and insurance industries. While there's no law prohibiting you from using a flat fee-based arrangement, you're likely to find it challenging to negotiate a fee amount in industries and regions where commission arrangements are customary. Likewise, you probably won't find many guidelines for setting a flat fee when these arrangements are not widely used.
When you hire a broker, you'll need to negotiate the commission amount and the terms for paying it. You'll use a written agreement, called a broker commission agreement or a broker fee agreement, which you each sign. (More on that below.)
These negotiations usually follow generally accepted industry practices as described below.
Commissions for commercial real estate sales typically range from 3% to 6% of the sale price paid at the close of the sale. Commissions for smaller properties that sell at lower prices are usually set at the higher end of the range, and very large properties that command a high sale price might earn a broker commission of less than 3%.
The commission rate for leases is based on the dollar value of the lease over the term of the lease. For example, if a broker with a 3% fee agreement leases an office space that rents for $12,500 a month, and the tenant signs a 3-year lease, the broker's commission would amount to 3% of $450,000, the value of the lease over the 3-year term, or $13,500.
Lease commission arrangements also include any rental rate increases called for in the lease agreement. Commissions for leases are usually paid out over time, and not immediately after the lease is signed.
Real estate transactions, whether sales or leases, usually involve two brokers—one who represents the property owner or seller and one who represents the tenant or buyer. In these cases, the brokers usually arrange their own agreement to split the commission. The split can be 50-50 or it can be another arrangement depending on the agreement between the brokers. The seller's or lessor's broker pays the tenant's or buyer's broker.
Most often, a borrower who uses a mortgage broker pays the commission. Mortgage broker fees typically range from 1% to 2%, depending on the size of the loan and other factors. The maximum fee a mortgage broker can charge is set by federal law at 3%.
Borrowers usually have the option of adding the cost of the commission payment into their loan amount or paying the broker directly upfront.
In instances where the lender pays the mortgage broker, the fee amounts differ. Mortgage brokers typically establish relationships with many lenders, and they might have different compensation agreements with each one.
Insurance brokers are paid a percentage of the policy premium, or they might charge an annual fee based on the services they provide. When insurance companies pay brokers a commission, they usually build back the cost into the price of the policy.
Commission rates for insurance brokers vary widely based on the type of policy. For example, an insurance company might pay a broker 100% of the cost of a whole life insurance policy for the first year because customers keep these policies with the same insurer, literally, until they die. For the insurance company, it's worth paying a huge upfront fee to capture what are essentially guaranteed revenues over many years.
Rates for renewals on whole life insurance typically drop to the neighborhood of 7%, and rates for other types of policies, such as worker's compensation or general liability, range between 5% and 15%.
In states that allow it, a broker might charge a flat fee to the person or company buying the policy in addition to the commission the broker earns from the insurer.
Commissioned brokers are paid only when they complete a sale. For example, let's say you hire Jane Smith, a real estate broker, to sell an office building you own. Jane prepares offering documents, spends time and money marketing the property, and conducts tours with a dozen interested buyers, but none is willing to sign a purchase agreement. You don't owe Jane a dime.
Now, let's suppose one of those 12 interested buyers does decide to purchase the property. Jane negotiates on your behalf and reaches a deal at a price and terms you and the buyer accept, and you both sign an agreement to sell the building. Once the sale closes, Jane is entitled to her commission.
Commissions to mortgage brokers are due upon the close of the loan, and insurance brokers are paid when the insurance company confirms that the policy is in place.
Brokers who work on a flat fee basis usually get paid whether or not a deal is completed. For example, suppose you are thinking about expanding your business into another state, and you want to hire a real estate broker to research the availability and costs of property in that state. Because you don't know whether you'll be buying property in the new state until you've researched it, you reach an agreement to pay the broker a fee for research services that's not contingent on finding a property to buy.
As you've probably surmised from reading this article, broker-client relationships and fee arrangements can get complex. You'll want to have a written agreement that spells out your and the broker's obligations including:
Like any contract, you'll also want to include the names and addresses of the parties and boilerplate provisions such as choice of law, jurisdiction, waiver of jury trial, costs and attorney's fees. Both you and the broker should sign the contract.
Many states require brokers to disclose their fees, and your broker will likely present you with a document called a broker fee disclosure and agreement. When a broker fee disclosure and agreement is used in place of a broker commission agreement, it should clearly state the services to be performed as well as the fees due.