When you buy a coffee, you tap your card or throw a few gold coins at your barista to get your morning caffeine hit as quickly as possible. When you pay bills, well, that money seems to come out of your account before you can so much as utter the words “pay day”.
But when you buy a house for the first time – despite it being one of the biggest purchases of your life – it’s not always clear who gets paid, how and when. However, when you’re dealing with such large amounts of cash, it’s important to be across the details from the beginning so you don’t get any nasty surprises (like the worryingly large family of spiders you ‘met’ in the back shed of that property you inspected last month).
From real estate agents to buyer’s advocates, many of the people you’ll come across on the road to your first home get paid on commission, and mortgage brokers do too. The only small difference is that mortgage brokers work off two types of commission – upfront and trailing – due to the nature of your decades-long relationship with them (remember, they’re the mate on the porch!)
Although the word ‘commission’ can sometimes conjure images of a greasy used car salesman who would sell their first-born child to make a buck, in the house-buying game it’s a necessary part of doing business. What you probably didn’t know is that it can actually work in your favour. Let us explain…
What is an upfront commission?
The first payment for your mortgage broker is what’s called upfront commission. This is a lump sum that’s dependent on the size of the loan and is paid on settlement by the lender (that is, the bank or financial institution that’s providing your home loan). Upfront commissions typically range from 0.46% to 0.65% of the loan amount, so if you’ve borrowed $600,000 for a 3-bedder in Jordan Springs your mortgage broker is looking at an upfront commission of roughly $2700 to $3900.
The thing is, the size of the loan (and therefore commission) doesn’t necessarily correlate to how much time and energy your mortgage broker has put into finding it for you. Some of the smallest loans can be the trickiest and hardest to get – your broker might put in a whole week for a loan that will earn them $1000, or be able to nail a loan worth $10,000 in commission within a few days. They’re doing the same diligent research for each one, because it’s in their interest to look after each and every client so that they stay a client for life!
What is a trailing commission?
If upfront commissions are the wedding, then trailing commissions are the marriage – the bit that lasts long after the DJ has packed up his decks and moved on to play Daryl Braithwaite’s “Horses” somewhere else. Trailing commissions are a deferred payment that mortgage brokers receive from the lender over the life of the loan.
These commissions are slightly smaller than the upfront payment, about 0.1% to 0.35% of the ongoing loan, or $600 to $2100 per year on that Jordan Springs dream house we talked about earlier. Again, this is paid by your bank or financial institution directly to your mortgage broker in monthly instalments, so you don’t need to worry about slipping a wad of cash into your broker’s Christmas card each year.
So mortgage brokers just get paid trailing commissions… forever?
Only if they’re keeping you happy! Let’s say, for example, that you’ve got a loan with Big Bankasaurus that was written by Bob the Broker, but he hasn’t been looking after you lately – the ‘good morning’ texts have stopped, he hasn’t sent you flowers in at least a month and he’s being cagey about where he was last Saturday night. Furious, you storm into the local branch of Big Bankasaurus and say, “Hey branch, I’ve got this loan with you guys, are you able to get me a better rate? I don’t want to deal with Bob the Broker anymore.”
At this point, Bob the Broker would lose his trailing commission, because he’s no longer servicing you (Sally from accounts, on the other hand…) and the bank is handling your loan directly. So if Bob the Broker has any sense at all, it’s in his interest over the long term to be keeping you as happy as humanly possible.
For you as the borrower, this not only means decades of great service from your mortgage broker but also prevents you from getting locked in to one specific bank or financial institution for the life of your home loan. How? Because once you go direct to Big Bankasaurus, you can guarantee they’re not going to help you shop around and find a better loan at one of their competitors – whereas your mortgage broker will do this each year as part of your annual review (monthly flower deliveries not guaranteed).
And don’t think this impeccable service only starts a few years down the track, either – you’re getting it from day one. What a lot of people don’t realise is that if you leave your mortgage broker within the first 12 months of the loan, they lose everything – 100% of both their upfront and trail commission. The lender will pull it right back off them. If you walk between 12 and 18 months? They still lose 50% of their commission. If that’s not an incentive for them to treat you like Beyoncé (and mean it) every time you walk into their office, we don’t know what is.
But wait, didn’t I hear something about all this during the Banking Royal Commission?
Yep, you did. During the Royal Commission, the big banks weren’t the only ones to take a hiding from Commissioner Hayne – mortgage brokers copped a hit too. And smack bang in the middle of the commissioner’s crosshairs? Trailing commissions, which were perceived as mortgage brokers trying to take two bites of the cherry from poor unsuspecting borrowers.
But as we mentioned above, trailing commissions actually ensure your mortgage broker looks after you for the life of the loan. They’re not going to hit it and quit it by offering you a dodgy product when it would directly impact both their commissions and referrals to other potential clients.
While the Banking Royal Commission initially made a recommendation to ban trailing commissions, the federal government overturned this decision on the basis that it would jeopardise competition within the mortgage lending market. According to peak industry body Mortgage & Finance Association of Australia (MFAA), more than 60% of home loans are written by mortgage brokers. Take these away and all of a sudden the big banks would have a pretty big slice of the pie to themselves – which isn’t good for anyone.
The other big problem with switching to an upfront-only model? It could encourage some mortgage brokers to churn loans and try to convince people to continually refinance so they’re getting the new upfront commission each time, as it would be their only source of income.
The government have said they’ll review this decision in three years’ time, but for now trailing commissions are here to stay. Which is good news for everyone, because it means your mortgage broker WON’T churn and burn, and they can continue to keep your home loan working for you, not against you.
The fine print
The material on this website is of the nature of general comment only, and does not represent professional advice. It is not intended to provide specific guidance for particular circumstances, and it should not be relied on as the basis for any decision to take action or not take action on any matter which it covers. Readers should obtain professional advice where appropriate, before making any such decision. To the maximum extent permitted by law, the author and publisher disclaim all responsibility and liability to any person, arising directly or indirectly from any person taking or not taking action based on the information in this publication.