The role of intermediaries and are they always necessary – NOV 2021

The real cost of brokerage fees on commercial mortgage and how to avoid them and potentially save hundreds of thousands of dollars.

Why do so many of us use a commercial mortgage broker (an intermediary) to secure large commercial loans instead of dealing directly with the lender? I suspect it is due to the mistaken belief that it is always quicker, more efficient, and cost effective. Sadly, in many cases, that is just not the reality – indeed the reverse is true. It is slower, less efficient, and less cost effective. Read on and I will tell you why.

In life there are things which we should do ourselves, things which we should outsource directly to a third-party provider, and things where we should engage an intermediary – provided they can add value to the process and the financial outcome. The trick is knowing which way to go for different things and when.

To illustrate my point, I would ask your indulgence while I give an example of when it’s good to do something yourself verses outsourcing verses using an intermediary.

Until the turn of the last century, most of us washed our own cars, cut our own grass, and cleaned our own home. Why? Because that was the done thing and it was considered a waste of money to pay someone to do those tasks and in relevant terms, they were not cheap. Moreover, specialist home service providers did not exist at that stage.

Fast forward to today and many of us outsource these tasks to specialist providers, who do it quicker, more efficiently, and cost effectively. To have your car washed and grass cut and home cleaned once a fortnight will cost you around $295.00 for five hours work. That equates to $147.50 a week for 21⁄2 hours of work.

Assuming you earned $60.00 an hour, then 21⁄2 hours of your work time would give you $150 per week to pay for your three home services. Most of us would consider that a good deal as the outsourced contractor(s) could do the work quicker because they are specialists and that’s what they do all day long, more efficiently, as they have all the necessary tools and equipment and are always up-to-date with the latest trends, and its cost effective for you, so that you can spend that saved time – 21⁄2 hours per week – on much more important things like family and friends or a hobby, passion or study.

Clearly, you would not even think about engaging an intermediary to co-ordinate the three home services, as that – for most of us – would just be a waste of money and add about 20% to the bill. That’s $30 per week or $1,560.00 per annum just wasted for really no value add at all by the intermediary.

All he/she does is make three calls a fortnight which you could easily do. So surely you would go directly to the service provider? It’s quicker – more efficient – cost effective and all with less stress.

Turning now to a commercial loan application and whether to use a commercial mortgage broker (an intermediary) to assist you. I will again provide an example and indeed a real-life example of a loan application submitted to Princeton Mortgages a while ago.

The application was for a $7 million construction loan where a broker was used by the borrower and where the broker received a 2.2% brokerage fee based on $7 million. The broker fee was, of course, paid by the borrower. That fee represented over 15% of the total facility costs including interest.

It’s my contention that using a broker in that instance was an absolute waste of time and money on behalf of the borrower as it was slower and inefficient and not cost effective at all. Moreover, the broker did not add value to the process nor the financial outcome. Indeed, the reverse was true.

The borrower should have approached and dealt directly with Princeton Mortgages. That, as I will demonstrate further below, would have been quicker, more efficient, and much more cost effective for the borrower.

As I mentioned in my introduction, many commercial mortgage brokers sadly do not add any real value to a proposed commercial mortgage transaction. Many are no more than an “introducer” and they should be looked upon as such by commercial borrowers and be paid a very small introducers fee of say 0.25% of the loan amount and not 2% or more.

Some brokers, who are clearly not competent enough to properly submit a commercial mortgage application to a lender, use the “smoke and mirrors” tactic to try and convince the lender that all their applications are good and they hide any negative aspects around the application. That only makes the lender wary and much more likely to reject the application outright.

If you have approached a commercial mortgage broker in the past, you will know that there was a good chance that he/she only asked for some basic details and documentation. Importantly, he/she probably did very little analysis, if any. Rather, he/she next approached a commercial lender or two and provides a pile of documents for the lender to wade through without any help from the broker. The lender must then seek additional details – always going back through the borrower’s broker – which only slows the process down and makes it more inefficient and less cost effective.

Eventually, the lender will seek the brokers approval to contact the borrower directly if the lender believes the application deserves further detailed assessment and it is usually only at that point, that the application can begin to be processed quickly and efficiently given that the lender now has a direct connection with the borrower.

From this point onwards, the broker is merely an observer in what becomes a very professional loan assessment process between the lender and the borrower.

Next, the lender prepares a full commercial loan submission which includes:

The lender next obtains approval of the transaction from the lender’s Trustee Credit Committee after which the lender appoints a quantity surveyor, arranges for loan documents to be prepared and then arranges for the first loan drawdown to occur.

The lender then manages the project over the next 12 to 18 months to ensure that it is completed on time and on budget. Importantly, the lender must sort out all problems along the way.

Interestingly, for all its efforts, the lender receives a fee from the borrower usually for the same amount as is the broker’s fee, notwithstanding the lender does 95% more work than does the broker. This highlights that either the lender is grossly underpaid for its time and expertise, or the broker is grossly overpaid for the limited work it does. Experience tells me that the latter is closer to the truth.

Now that you know of the existence of Princeton Mortgages, as a specialist commercial mortgage lender, you can approach them at any time directly through George Gadallah on 0411 614 694. George will help you all the way and he will treat you professionally and with respect.

Circling back to the fees that the broker earned in the example I mentioned above for the $7 million construction loan, the broker received a fee of 2.2% on $7 million. That amounted to $154,000 and was paid by the borrower upon the first loan drawdown. In this example, the broker was paid $154,000 for effectively introducing the deal to Princeton Mortgages. No more and no less.

Total financing costs were as follows:

As can be seen from the original example of a home maintenance
for car washing, grass cutting and home cleaning, where an introducer was involved, a fee of 20% was payable and on an annualised basis that fee was $1,560.00 based on total annual works valued at $7,670.00.

One might argue that $1,560.00 does not seem much, and if you hold that view, I would ask that you focus on the total value of the contract amount or the loan amount in the second example. Now if the total dollar value upon which a fee is based is significantly more, as is the case in the construction loan example of $7 million, then the brokerage paid is significant, even if the percentage of the fee appears small. On $7million based on only a 2.2% brokerage fee (not 20%) it was $154,000.00.

Interesting if the broker in the $7 million loan example above was only paid an introduces fee of 0.25% (as I previously suggested) instead of a fee of 2.2% then the total financing costs table above would now look like the following.

In summary, if you want to pay very little or no brokerage fees on your next commercial construction loan transaction and potentially save hundreds of thousands of dollars, call George Gadallah from Princeton Mortgages directly on 0411 614 694.

John (JT) Thomas

This opinion piece is provided by John (JT) Thomas, a 45-year veteran of the financial services industry and since 1987 a specialist in commercial mortgage funds. Considered by many to be the father of the modern commercial mortgage fund sector, JT helped establish and then managed – for 17 years – what became the largest and most successful commercial mortgage fund in Australia – The Howard Mortgage Trust – with assets exceeding $3 billion. Under JT’s stewardship, investors never lost one cent of their investments and indeed, investors always received competitive monthly returns. JT was also Chair of the $40 billion mortgage trust industry sector working group.

JT has been proudly involved with Princeton Mortgages for eight years and sits on both the Princeton Credit Committee and the Princeton Compliance Committee as well as being an advisor to the Princeton Board.