Commission
Commission is only relevant to an agency contract. Where a broker acts as riskless principal (or any other kind of principal) there is NO commission: the payment we call a “commission” is really just an additional fee.
Rationale
- Agency “commission”: In a pure agency contract, there is no direct transaction between agent and principal, so the only way the agent can be remunerated is by a separate “agency fee”: this is a “commission” calculated on the value of the transaction between Street and the Customer directly to which the agent is not a party.
- Riskless Principal compensation: In a riskless principal structure there are two contracts: one between Street and Dealer, and between Dealer and Principal. Therefore Dealer may extract a fee by:
- Mark-up/Mark-down: imposing a mark up/mark down between the two contracts; OR
- Fee: separately charge a fee, which may be labelled a “commission”.
Example: A real estate agent arranges a transaction between vendor and purchaser. It is not in the contractual chain itself. Therefore one pays the purchase price to the vendor, but the commission to the agent - look upon it as a derivative of the purchase price, if the fancy takes you — though honestly even I think that is to stretch the metaphor a little.
Delta-one swaps
Now: if you have legal, regulatory or — gasp — tax reasons for not wanting to have anything to do with the principal contract between — say your swap counterparty and its hedge, you are best advised to call the consideration you pay your swap counterparty for agreeing to pass the economics of its hedge to you a “fee”, because the counterparty is your counterparty in the contractual chain, and not a “commission”, which might be taken by mendacious minds in revenue departments to imply it was an agent.
Does it really matter?
My own view is that “a rose is a rose, and by any other name smells just as sweet” - but tax lawyers aren't so well read. And heaven only knows what passes for literature for tax inspectors.