L.A. County requires all brokers to split commissions with it on county lease deals.

The County of Los Angeles, looking to cut overhead by taking advantage of the soft commercial real estate market, has quietly instituted a policy that is expected to transfer millions of dollars each year out of the pockets of commercial real estate brokers and into county coffers.

The policy requires brokers to split commissions with the county on all county lease deals. Potential savings for the county could be significant, considering county agencies lease some 18 million square feet of office space locally.

Likewise, the potential losses to local brokers could be significant. And those hits are coming at a time when many local brokers are already hurting from the recession's impact on commercial leasing activity.

"I don't think many brokers are even aware the county has done this yet," said one downtown broker. "The county has been the first to do it. But I think other local municipalities will soon catch on and institute similar policies. If it does start to spread across the board, then you're going to hear some noise from upset brokers."

The City of Los Angeles, which leases about 2 million square feet of local office space, has no plans to institute a commission-splitting policy, reported Randall C. Bacon, general manager of the city's General Services Department.

The first L.A. County lease to require the commission split is now nearing completion, reported Claus Marx, chief of leasing and space management at the county's Internal Services Department.

That deal is relatively small. It involves a five-year lease for 12,000 square feet of office space in Sherman Oaks, and will bring about $11,000 in commissions to the L.A. County Department of Mental Health.

Two other county lease deals now in the works, however, both of which are "very large," are expected to each bring some $200,000 in commissions to county agencies, Marx added.

He would not disclose any further details about either of those pending county deals.

"This (commission-split) money will probably be enough to cover all our costs associated with relocating county offices," Marx said. "But as to how the money is actually spent will be up to the individual 'clients' (county departments)."

The county's Internal Services Department operates as an independent service provider to various county agencies. Its 14-person leasing staff finds office space that meets the requirements of county agencies, negotiates the lease terms and conditions, and even performs space planning and design services.

The Internal Services Department then "bills" that county "client" for the real estate services performed.

Those county "clients" will now start receiving a split of all brokerage commissions paid on each lease deal transacted on their behalf, and will be free to spend that money in any way they see fit. The commission money can be used to pay off the Internal Services Department, to pay for tenant improvements, to buy fancier furniture, or whatever.

The anticipated Los Angeles County Transportation Commission lease deal, which is expected to involve between 300,000 and 400,000 square feet of office space, would apparently not be affected by the commission-split policy. The LACTC's exclusive broker working on that deal is the leasing division of Goldman Sachs & Co. And that firm would be entitled to receive any commissions resulting from the LACTC mega-deal, sources said.

Just as residential sales commissions are typically paid for by the home seller, commercial lease commissions are typically paid for by the office building owner/developer.

The "listing broker" that represents the building typically receives a commission, as does the "tenant rep" broker. Now the county will split all commissions 50-50 with the listing broker, or 33-33-33 with the listing broker and tenant rep broker, depending on the deal.

During recessionary times when the supply of available office space greatly exceeds demand, such as currently exists in Los Angeles, lease commissions usually rise because of increased competition among developers vying for the limited number of tenants. Developers have long known that brokers tend to favor projects that pay the highest commissions.

Hence, a broker will be more likely to steer a major tenant to a project that pays higher commissions. And such projects, therefore, enhance their chances of landing a major tenant by offering higher commissions than the competition.

Those high commissions, combined with a dearth of private-sector leasing activity, have led local brokers to increasingly battle for county lease deals. In many cases, the "tenant rep" brokers performed very little work and were paid handsomely.

"We were experiencing situations where brokers walked away with several hundred thousand dollars in commissions after acting as nothing more than a messenger for us," Marx recalled.

The county's Internal Services Department maintains a mailing list of about 700 local brokers, developers and other real estate professionals. Parties on that list are mailed "circulars" whenever a county lease requirement arises. Such circulars indicate which county agency is in need of space, the amount of space required, the preferred geographic location and any other requirements of the desired lease.

"Because the market's so slow right now," Marx explained, "we had tenant reps finding out about the deals and providing us with quick references, hoping to get a foot in the door that might get them a commission."

That situation, plus the county's need to cut expenses, led to the commission-splitting policy being instituted.

"In another market, where the demand for office space exceeded supply, this (commission-splitting policy) would probably work against us," Marx conceded. "But in the current market, it's easy for us to command this commission split. Brokers are receptive to any business right now, as long as they know up front what the conditions are going to be."