What is a good referral fee?

The short version? Agencies typically pay referral fees of 5% to 10% of the revenue they receive—but there's plenty of nuance on how you handle it, and many agencies pay 0% in referral fees.

sakasandcompany.com - Referral fees: How much should agencies pay for sales referrals?

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Wondering what’s normal or typical to pay in agency referral fees? Seeking to grow his revenue, an agency owner asked me in Executive Coaching about benchmarks: “What have you typically seen when it comes to paying people who refer business to our agency? Curious how much is reasonable, as well as if there are any things I need to be mindful of when it comes to paying people what could be significant amounts.” The short version? Agencies typically pay referral fees of 5% to 10% of the revenue they receive—but there’s plenty of nuance on how you handle it, and many agencies pay 0% in referral fees. You’ll want to get advice from your lawyer on specific language, and your accountant on how to handle the money. In a future article, I’ll explore how to build referral partnerships—including finding your ideal matches, approaching them with the referral opportunity, and managing the relationships. Subscribe to my newsletter for agency leaders to ensure you don’t miss the future update.

What percentage are typical sales referral fees at agencies?

Most common, in my experience: a referral fee for 10% of revenue. Second most common: a referral fee for 5% of revenue. After that, it tends to be a mix—for instance, 20% of the first month’s retainer, and nothing after that. Some agencies opt for a flat fee instead—and many agencies don’t pay anything as a referral fee; more on that below.

How long should an agency pay referral fees?

I typically see 12-month caps on referral fees. That is, you pay a percentage for the first year you do business with the new client. But some referral fees are paid in perpetuity (that is, as long as the new client remains a client of your agency). Don’t want to pay forever, but want to encourage referrals to long-term clients? Consider a step-down structure (e.g., 10% of revenue the first year, 5% the second year, and 0% after that). It’s all negotiable. But I find that agencies who promised “forever” referral fees tend to regret it later. I recommend capping the referral fee at the first year of revenue (since after that, it’s reasonable to assume the continued revenue is from your delivery rather than the introduction). When agencies choose not to cap the timeframe, I think that’s overly generous.

Why do agencies pay referral fees for sales introductions?

Referral fees create incentive alignment—you want people to make more sales introductions, and they want to get paid more for more introductions. You aren’t required to offer referral fees—but for most agencies, that tends to mean fewer referrals, since people don’t have an extra incentive to make introductions. Keep in mind that are there many ways to structure sales referral fees at your agency—including fixed or step-down percentages, time limits, flat fees and indirect options, and others. Read on for more about options.

What about variable rates for referral fees?

Variable fees might make sense, depending on the circumstances.

You might consider paying a higher fee if the referral is pre-qualified. (See my article on commission-only salespeople for pros and cons on the risks here.) For instance, paying 10% on unqualified introductions is expensive, while 5% on highly-qualified intros might be a great deal. You might pay a lower referral fee if the refer-ee is someone you know already… but they wouldn’t have reached out on their own (and thus the referral added value).

You also might not pay a percentage—read on.

Do you always have to pay a percentage of revenue?

You can handle referrals in “not-a-percentage” ways—including flat fees, gift cards, and other rewards. For instance, I created a referral program specifically for current and past clients. If they introduce me to a new client, both parties (the referrer and refer-ee) each receive a US$500 credit on their next invoice. Why current and past clients? Because they’ve experienced my help before, and thus are especially qualified to recommend new clients. It’s also part of my boutique client experience—it reinforces that my clients are special, and it also makes them a hero to the refer-ee, since knowing the referrer saved them $500.

Talk to your accountant to understand what referral rewards are deductible.

Should you pay if they’re “introducing” someone you already know?

Most commission programs include language around what qualifies for a commission or referral fee. This may include a signoff by the agency that the referrer gets “credit” for the referral fees—and that there’s no referral fee without the mutual signoff beforehand. You might consider a “middle ground” approach. For instance, if you know someone but haven’t been in touch for years—and they only now are reaching out because someone recommended they contact you—I’d say you owe the referrer at least a partial referral fee, since they triggered the sales outreach behavior. You want to be fair, without over-complicating things—and you also don’t want to discourage referrers from making introductions.

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Don’t referral fees hurt our agency’s profit margins?

Yes and no. Sales commissions are a cost of doing business for most agencies. If you aren’t currently deducting sales commissions—including as payments to yourself, if you’re the salesperson as the owner—then your profit margins are technically “overstated” today. If you’re already paying sales commissions, the net total expense for referred-in business is likely similar to what you’re paying today for outbound leads—since referrals are effectively inbound leads, and agencies tend to pay a lower commission on inbound leads. For instance, you might pay 10% to outbound leads, or 5% for inbound leads. In this case, you might pay 5% to the referrer plus 5% to your salesperson who closes the deal. In that example—10% for a referred-in lead is twice the 5% you might pay internally for an “organic” inbound lead. But it’s comparable to the 10% you’d pay your salesperson for an outbound-sourced lead—and the referred-in lead is likely better-qualified and easier to close than a purely outbound lead. You have to decide whether the tradeoffs are worth it. Either way, be sure you’re accurately tracking the cost of sales. Why? Paying too much for sales hurts your profit margins… and under-paying for sales likely hurts your ability to grow the top-line. I’ll share more on cost-of-sales in a future article.

[FREE TEMPLATE] What does a sample Referral Fee policy look like?

I’m not a lawyer or CPA, so you’ll want to get feedback from your legal and financial advisors. That said—to save you money, here’s a free Referral Fee Policy template, for your lawyer to draft a legal agreement: “Our agency offers a referral fee as a thank-you for introducing new clients. In short, you receive 5% of the revenue for a year if they’re a client we don’t already know. We pay you the referral fee each quarter, based on gross services revenue we collect from the client, within 30 days of each quarter-end, for the 12 months after the new engagement starts. If your current employer prohibits receiving referral fees, we’re glad to treat you to dinner or offer another thank-you that doesn’t impact your conflict of interest requirements. You may receive a 1099 at year-end for referral fees paid.” Again, talk to your lawyer and accountant, because this has significant financial implications for you—and for the referring parties. Speaking of that…

Why should agencies talk to their lawyer and accountant first?

Your lawyer can advise you on language to use—and they can share if there are reasons to not pay a referral fee, based on your unique circumstances. This includes language to protect yourself from issues around conflict of interest, to include having recipients certify that they aren’t prohibited from accepting the referral fees. In the U.S., you’d likely include collecting an IRS Form W-9 so you can issue a 1099 (for miscellaneous income) at year-end. Your accountant can advise you on how to approach things financially, including helping you maximize the legal deduction for referral fees and other referral rewards. They can also recommend how to track referral fee payments, including options in your accounting software to streamline the calculation and payout process. Speaking of that…

How do agencies track and pay referral fees?

Don’t over-complicate things, if possible. I recommend using a process tied to your existing systems. For example, you might create the referrer as a “sales rep” in your accounting software, so that you can easily run a report on referral fees (“commissions”) due rather than have to calculate everything manually. Your accountant can advise accordingly. But I recommend you structure the agreement (and your calculations) based on revenue collected, not revenue contracted. That is, payments are based on when you actually receive the money. How often should you pay-out the fees? Monthly is an option, although quarterly is certainly easier. You probably want something of a lag—rather than immediate payouts—in case a client “claws back” a refund. (But remember that unhappy clients don’t always want refunds.) As you expand your agency’s referral partnerships, you may eventually hire a Partnership Manager to run the entire process. But you won’t need that role to get started.

What if someone new randomly shows up, asking for a referral fee?

You’ll have to assess the situation individually, including evaluating the referrer’s credibility. You don’t want to turn-away someone who’d be a great future referral partner. But you also don’t want to waste time on a flakey sales opp that was doomed to fail. Talk about money early, including if the initial referral would or wouldn’t be commissionable. You may want to get them under contract before they make the introduction, but it’s worth an exploratory conversation first.

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Be skeptical… but don’t be rude. A few years ago, I introduced a client to a specialized advisory firm via a professional acquaintance. I knew the acquaintance worked with the firm in some capacity—as a contractor, it turns out. The owner of the advisory firm later said since he hadn’t met me before, any referral fee would go to the contractor—not me—unless I could persuade the contractor to share part of the fee. This was irrelevant—I wouldn’t have accepted a fee in the situation anyway—but it certainly made him look petty.

What if you don’t want to pay referral fees at your agency?

If you want to pay a 0% referral fee—because you don’t like referral fees, or because you want an in-kind arrangement with another firm—that’s entirely fine. Many agencies don’t pay referral fees; in that case, referrers get a thank-you note and perhaps a token item of nominal value (e.g., a $50 gift card). Keep in mind that you may get fewer referrals without a referral fee. Ultimately, it depends on your business goals—what are your priorities? No-fee referrals might be more qualified… or less qualified, because people aren’t choosing to “vet” them first. If you typically get referrals from employees at current client companies, you may not be able to pay referral fees without violating the client’s Conflict of Interest policy. How so? Read on.

How might referral fees create a problematic Conflict of Interest?

if an employee at a current client makes an introduction, it creates a conflict of interest to pay them a commission. Why? Because now they have a beneficial financial arrangement with the agency, which clouds their ability to manage you impartially (in their role as an “agent” of their employer). The exception? This likely wouldn’t apply if the client is the sole owner of the other business. Your lawyer can advise how to handle this. You might be able to provide a discount to the client company (instead of the individual person), send them a durable item up to a certain value, or send a consumable item for them to share with their colleagues. And in other situations, you might be limited to sending them a thank you note. Separately—but related—you’ll want to address how you handle referrals from your agency’s current employees, too. Do you expect no-fee referrals as part of their job? Are they getting some degree of commission anyway? Do they get a nominal flat referral fee? There are lots of options, which are beyond the scope of this article. But you’ll want to nail down the details soon, to avoid misunderstandings and hurt feelings later.

[PROCESS] How do you decide on your agency’s policy for referral fees?

Here’s my step-by-step process to help you decide how to handle referral fees at your agency. Remember to involve your lawyer and accountant, once you draft the initial policy. Understand your goals for paying referral fees. Get clear on what behaviors you want to incentivize. Understand how the referral fees would impact your profit margins. Outline your initial referral fee policy. Get advice from your accountant and lawyer, on any potential modifications to make. Revise your referral fee policy. Ask your lawyer to create a referral fee agreement, based on the final policy. Communicate your referral fee policy to clients, partner agencies, and others who might want to participate. Adjust the program as you learn more, including new terms for future referral partners. Want my one-on-one feedback on your referral fee plans? Once you outline your initial plan—so that there’s something tangible to discuss—I’m glad to help you via a Clarity.fm consulting call. In a future article, I’ll explore how to build referral partnerships—including finding your ideal matches, approaching them with the referral opportunity, and managing the relationships. Subscribe to my newsletter for agency leaders to ensure you don’t miss the future update.

Question: How do you approach paying sales referral fees at your agency?

sakasandcompany.com - Referral fees: How much should agencies pay for sales referrals?

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