Commission Broker

What Is a Commission Broker?

A commission broker is an employee of a brokerage company who gets remunerated for the number of trades they execute. The commission structure can encourage unethical behavior by unscrupulous commission brokers. For example, a dishonest commission broker may engage in a practice called churning, which means they execute multiple trades in a customer's account for the sole purpose of generating more commissions. The additional trades do not benefit the customer.

Key Takeaways

  • A commission broker is an employee of a brokerage firm who receives payment for the number of trades they execute for clients.
  • These types of brokers typically earn a percentage of the client's assets traded, meaning the more a client trades, the more money they make.
  • A commission broker can sometimes put their own interests above that of their clients in order to earn more money.
  • Unethical practices that commission brokers may engage in include churning and bucketing.

Understanding Commission Brokers

Brokers can be paid in a variety of ways, the two most common being a flat-fee broker and a commission broker. A fee broker charges a flat fee for providing services to a client, regardless of how much business that client does.

A broker who charges a flat fee for their services rather than earning a commission based on order size has more incentive to put the customer's best interest first because they earn the same amount regardless of how much business that client does.

A flat-fee broker does not have an incentive to push a customer into certain securities just to make a sale. Instead, they have an incentive to place the customer into the best-performing investments, so they remain loyal and continue to provide a steady source of business.

A commission broker, on the other hand, earns their money based on the volume of business that a client does. If a client doesn't trade at all, a commission broker will not earn any income. If a client trades more and more, a commission broker will earn more.

Tying a commission broker's earnings to the level of business a customer does can often lead to unethical practices, such as churning, whereby a broker trades excessively in a client's account just to generate commissions. A broker may also engage in bucketing, whereby they buy or sell a security at a better price than the client expected but do not pass on that value to the client, keeping the profit for themself.

Commission Broker Duties

  • Offer Advice: Commission brokers provide advice about what stocks to buy and sell. As they earn a commission for each trade they execute for the customer, they typically make solicited recommendations and suggest trade ideas to encourage trading volume.
  • Provide Research: A commission broker usually distributes the brokerage company's proprietary research to customers. Research reports might include buy and sell recommendations to urge customers to trade.
  • Account Management: Commission brokers who are full-service stockbrokers may make investment decisions on a customer’s behalf. Investors should review discretionary accounts frequently to ensure their broker is not overtrading to generate additional commissions. For example, a broker may be churning a customer’s account if they are buying and selling stocks that operate in the same industry.

Commission Broker Earnings

When a customer pays a commission to buy or sell a security, it gets split between the brokerage company and the commission broker. Typically, brokers who execute more trades receive a larger share of commission from their brokerage company.

For example, a broker who generates $500,000 in commissions may receive a 60%/40% split, meaning they earn $300,000 and the brokerage company takes $200,000. A broker who makes $100,000 in commission may only receive a 30%/70% split, meaning they receive $30,000 and the brokerage company pockets $70,000. Brokerage companies increase a broker's commission splits as they produce more revenue to provide an incentive and generate more business.

Being a commission broker can be a demanding and stressful job as your take-home pay depends on how much business you sell. This can result in varying amounts of income every week, month, or year. In down markets, when investment activity can be lower than average, commission brokers can suffer financially.

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