Posted by ray@lcorn on February 16, 2006 at 20:09:05:
I have mixed thoughts about lease commissions.
In my area it is customary to pay the commission monthly as the rent is paid. Most agents try to also include renewals, but that’s where I balk. In my view if the tenant renews it’s because I’ve done a good job as landlord, not because of anything the agent did. However in cases where the property is managed by a fee manager who also leases the space that doesn’t apply.
But I also like paying commissions in a lump sum up front in order to position the property for maximum value on resale. I work hard to increase NOI in order to create upside value, and lease commissions can erode that work quicker than I can make it. For example, say the 4% commission applied to an entire center with a $100,000 rent roll. That’s $4,000 per year off the NOI. At an 8% cap that’s $50,000 in value.
So there’s a lot to be said for getting the commissions paid and out of the way, but it’s not always feasible. I’ve got several properties commission free by design. When we develop a new property we almost always pay any commissions in a lump sum. When we buy properties we try to require sellers to buy out any commission agreements as a condition of sale. But I’ve been in deals so eaten up with commissions that it was impossible to get rid of them. To make it even worse, there is a sneaky practice among the brokers to write the lease so that the rent is sent to the broker, who deducts the commission, and then sends the balance to the owner. I refuse to agree to that, and have yet to meet a broker who will not back down.
So I guess the bottom line is that it’s a case-by-case thing, but would advise taking a longer view to consider the effects on value when it’s time to sell. The overall investment plan may drive the decision, e.g. a long-term hold vs. a turnaround, or just plain old dollars and cents of whether there are funds available to pay the lump sum.