By Mateusz Cieslak, AyAMi Group
Updated: March 22, 2024
Will the Proposed Commission Lawsuit Settlement Truly Impact the Industry?
The real estate community is abuzz with news of the National Association of Realtors' (NAR) settlement proposal, poised to bring significant changes pending court approval. Among the headlines is the potential reduction of the 5-6% real estate commission fees, a move that has sparked differing opinions among brokers and agents.
As a longstanding industry practice, sellers’ agents typically have been posting their offers of compensation for buyers’ agents on the Multiple Listing Service (MLS) platforms. In the settlement plan, NAR proposed to end this industry practice in July 2024.
This sounds like a complete end to the high-commission fees for the real estate agents. Not so fast. Even if the court approves the settlement proposal, the industry professionals believe the high commissions will not go away anytime soon. As we delve into the implications of this settlement, let's first examine its proposed terms and understand the underlying reasons behind the high real estate commission rates in the US market.
What does the settlement propose?
The proposed settlement aims to address the issue of high commission fees, primarily by prohibiting compensation offers made to buyer's agents on MLS platforms. However, beyond this, the settlement encompasses additional terms designed to benefit the public and to protect NAR and brokerages.
The proposed terms that will benefit the public are: (1)
Compensation offers to buyer’s agents will be banned from MLS platforms, (2)
agents using MLS will be required to have written agreements with their
clients, the buyers (this is already required in many states including
Connecticut), and (3) specific rules regarding the payment of damages and
certainty that those funds will make their way to plaintiffs.
In exchange, the plaintiffs offered to NAR, its members, and other brokerages involved in the case: (1) release of liability for brokerages and their agents, NAR, its members, local Realtor associations, and association-owned MLSs, (2) damages payment reduced to $418 million from the original $1.8 billion as awarded by the jury in federal Sitzer-Burnett case on October 31, 2023, and (3) no admission of any wrongdoing.
Big issue not being addressed in the settlement
The settlement assumes that the main driver behind high commission fees is seller’s agents making offers of compensations on the MLS platforms to buyer’s agents. While MLS platforms are an easy medium for such offers because every participating agent has to sign legally binding agreements and is held to their terms, this isn’t the only way to offer such compensation. For that reason alone, it is hard to see how this settlement will end the practice of compensation being offered to buyer’s agents. Even if the court approves this settlement, brokerages and agents can still offer similar compensations outside of MLS. This could mean using other platforms or off-line agreements that achieve similar result.
Plausible way for this practice to completely vanish is to allow buyers an option to represent themselves or to pay for their agent’s services directly.
How does US compare to other markets?
In comparing the US real estate market to others around the globe, notable differences emerge. In the UK and Australia, for instance, average commission rates hover around 1.5% and 2.5%, respectively, albeit covering only the seller's agent fees. Buyers seeking representation or their own agents must shoulder these costs themselves, fostering a variety of compensation structures with minimal government oversight.
On the flip side, France stands out with average commission fees averaging 5%, ranging from 3% - 10%, among the highest in Europe, and covering both buyer and seller agents' services. While fees can be paid by buyers or sellers, property advertisements in France must transparently indicate who bears these costs, prohibiting inclusion in the asking or listing price. In practice, sellers often foot the bill for commission fees.
It's crucial to note that the disparity in commission fees between the US and other countries largely stems from the utilization of buyer and seller agents. Unlike in the UK and Australia, where fees primarily cover the seller's agent, the US mandates buyer-agent involvement. US buyers aren’t opposed to it because sellers pay for that service. Seller’s or listing agents typically will not work with the buyers directly; partially due to regulatory issues and partially because they would rather refer them to a buyer’s agent and receive a referral fee upon transaction close. The setup predominantly benefits traditional brokerages, augmenting their fee pool.
Why listing agents do not deal with buyers directly?
Historically, buyers operated without dedicated representation, while sellers engaged agents to advocate for their interests. Naturally, sellers footed the bill for these services. However, regulatory measures were implemented due to concerns of buyer vulnerability, often misled or uninformed by seller agents who may unintentionally blur the lines between representation. Consequently, buyers were mandated to seek separate representation and to be notified that the seller’s agent is not their agent. To avoid conflicts of interest and potential legal liabilities, seller's agents were prohibited, with some exceptions, from simultaneously representing both parties.
This regulatory framework incentivized the emergence of separate buyer and seller representatives, with brokerages systematically increasing seller’s agents’ fees who in turn offered to share their compensation with buyer agents. As a result, the financial burden of buyer representation typically falls on sellers. While this model ensures distinct representation for each party, it also raises concerns about conflicts of interest. Analogous to hiring a litigation attorney, where the opposing side controls payment, such arrangements risk misaligned incentives and power imbalances.
In real estate transactions, maintaining separate representation and compensation sources strives to preserve the autonomy and interests of both buyers and sellers, fostering a more equitable and transparent process.
How did the US end up with 5 – 6% commission fees?
In the US, the 5-6% real estate commission is paid by the seller and covers the fees for both seller’s and buyer’s agents. The average commission reached 5.66% in 2021 and it has been on an upward trajectory for years. Because sellers pay the commission only upon closing when they receive a large chunk of proceeds for selling their property, they aren’t as incentivized to fight small annual increases in commission rates. In addition, since almost all of the traditional brokerages operate on a similar model, there isn’t much price differentiation, which leaves sellers with little choice and almost no negotiating power. While the seller decides on the split, that decision is typically driven by the seller’s agent’s advice. Under the 6% total commission fee structure it is common to see 3% seller / 3% buyer, 3.5% seller / 2.5% buyer, and even 4% seller / 2% buyer fee splits.
What inflates the buyer’s agent’s commission?
The landscape of the real estate market is saturated with agents, a phenomenon driven by several key factors. Firstly, the predominant model in the industry operates on a contractor basis, with agents compensated solely through sales commissions and not being hired as employees. This setup, coupled with minimal barriers to entry – typically requiring only a GED, short course, exam, and brokerage affiliation – has led to a proliferation of agents; a large pool of talent ready to pay fees to NAR and the traditional brokerages.
Compounding this, the industry has adeptly marketed the allure of the real estate agent profession, emphasizing its perceived perks, high commissions, and glamorous lifestyle. However, the reality starkly contrasts with these portrayals, resulting in an influx of agents offering similar services at elevated prices. Laws of supply and demand would call for price competition and lower fees given the agent-saturated market. However, it is the brokerages that remain in control of the commission fees and not the agents. Consequently, prospective buyers and sellers may find themselves inundated with pitches from 6 to 9 agents, and all of those agents will offer similar prices and services.
This saturation contributes to agents spending an extensive portion of their time prospecting and chasing leads rather than serving existing clients, ultimately leading to an estimated 80% of agents leaving the industry within the first two years. Despite this turnover, agents generate revenue for brokerages and industry associations through membership dues and various fees, e.g. training, desk, technology, etc. As a result, consumers experience a lot of aggressive agents using often unfair sales tactics.
Considering that the average residential agent closes around 6 transactions annually, and successful agents may handle 20 or more, the incentive to maintain high commission rates becomes evident. With a median sale price of $450,000 and a 5.66% commission, split evenly between agents, each agent brings approximately $76,410 in gross commission to the brokerage. After accounting for brokerage fees and business expenses, the net taxable earnings for the average agent amount to approximately $42,000 per year.
This begs the question: are agents solely responsible for the persistence of high commission fees, or does the broader industry ecosystem share the blame? The alternative model of hiring agents as employees and providing salaries presents a possible solution, yet traditional brokerages are reluctant to adopt it due to increased costs and reduced profitability.
In examining who bears the burden of this status quo – agents or consumers – it becomes apparent that both parties are affected. As the industry continues to grapple with these challenges, a critical evaluation of existing structures and practices is essential to fostering a more sustainable and equitable real estate landscape.
Revolutionary Brokerages Leading the Charge for Change
Acknowledging the need for transformation within the real estate sector, it's crucial to highlight brokerages pioneering alternative models to address systemic challenges. These forward-thinking entities are reshaping the industry landscape by introducing innovative approaches that prioritize consumer benefits.
Among these trailblazers are: AyAMi Group (Connecticut), Yoreevo (NYC), Redfin, Skymax Realty (Boston), Green Door Realty (Boston), Nuhom (Boston), HauseIt (NYC & Miami), Bespoke (Long Island, NY & Miami), and Justo (Toronto) just to name a few.
These brokerages: (1) offer incentives to buyers such as
commission rebates, lower commission fees for sellers, and flat fee programs,
(2) pay salaries to their agents, and (3) reorganize the agent’s model and
schedule allowing them to focus more on existing clients and not chasing leads,
thereby reducing agent saturation in the market.
Despite the industry's resistance to change, these disruptors persist in their mission to democratize real estate services. Notably, ZipRealty, founded in 1999 with a focus on commission rebates and technological advancements, amassed 1,800 sales associates and $2.7 billion in sales volume by 2013. However, its acquisition by Anywhere Real Estate (formerly Realogy) led to a departure from its alternative model, underscoring the challenges faced by innovators in a traditionally entrenched industry.
While not all alternative model brokerages adopt identical strategies, their collective vision is clear: to revolutionize residential real estate by offering competitive pricing and superior service quality across diverse markets. From entry-level homes to luxury properties in prestigious locations, these disruptors strive to redefine industry standards and empower consumers in their real estate endeavors.
Exploring Consumer-Centric Solutions
Identifying the optimal solution for consumers presents a complex challenge with no one-size-fits-all answer. However, amidst this complexity, one undeniable fact emerges: the proposed settlement, while posing limitations on brokerages, still allows for the possibility of compensation to buyer's agents. In light of this, empowering buyers to represent themselves or directly engage and compensate their agents emerges as a compelling solution. By alleviating sellers from the burden of covering agent fees, the inflated cost of housing can be curtailed, opening avenues for alternative compensation models prevalent in international markets.
One such model is the fee-for-service approach, wherein buyers pay for individual services rendered, whether it be per showing, inspection, or contractor arrangement. Similarly, a flat fee structure, divorced from the purchase price, ensures alignment of agent compensation with buyers' interests, deterring incentives for inflated home prices. Alternatively, charging clients based on the agent's time spent offers a transparent and equitable compensation mechanism.
Yet, until legislative frameworks unequivocally mandate buyers' responsibility for compensating their agents, traditional brokerages are unlikely to deviate from the prevailing model, wherein sellers foot the bill for buyer's agents. In the interim, brokerages championing alternative paradigms will continue their efforts to drive industry reform, offering hope for a more consumer-centric real estate landscape.
For any questions reach out to us at the below.
AyAMi Group, Licensed in the State of Connecticut
800 Village Walk #787, Guilford, CT 06437
Phone: (203) 533-9781
