By: Pierre E. Debbas, Esq. – Co-Founder of Romer Debbas, LLP
“Community standard” is a common phrase used to describe what local norms are on a given topic, which helps define what reasonable and acceptable conduct is as it relates to that topic. In the real estate market, it has been community standard for years that sellers pay listing agents and buyers’ brokers a total commission of 5-6%. Earlier this year, a lawsuit was brought against the National Association of Realtors (NAR) on the premise that the brokerage industry has been “colluding” for years to keep commissions artificially high and to impose the expense on the seller which theoretically creates higher asking prices for properties.
This argument is flawed on many accounts. At the outset, commission structuring has always been a negotiable term. Secondly, there is little realistic possibility that removing this expense for a seller would result in a reduction in pricing, and lastly, buyers have always had the option of foregoing representation which would save the seller on closing costs, which again, would theoretically result in decreased pricing.
The practical changes resulting from this settlement (which went into effect on August 17th) and the timing of this lawsuit could not have come at a worse time for the real estate market. While housing transactional volume is the lowest in decades and interest rates have almost quadrupled in two years, pricing has increased modestly in most of the country. The affordability issue in America is nothing short of a crisis and altering commission structures will almost assuredly not alleviate this crisis. If a buyer was looking to purchase a home with an asking price of $1,000,000 and the seller says they are not willing to pay the buyer’s broker’s commission, then the buyer will simply offer $970,000 (assuming 3% commission). At the end of the day, the bottom line will essentially be the same for that buyer, just the expense of paying the commission is not something they could finance as opposed to it being part of the purchase price.
The settlement focuses a lot on “transparency” which I could not be more in favor of in my role of protecting the consumers’ interests as counsel to my clients. Could the brokerage industry have done a better job of making it known that commissions are negotiable? The answer is “yes”. However, lawmakers often create policies and make decisions without being experts in that specific field. The unintended consequence of this settlement will be that a significant percentage of entry level buyers will be making the biggest financial investment of their lives without representation.
The median home price in America is at an all-time high at approximately $426,900. It takes the average American most of their lives to be able to save the 10% to put down as a down payment on a home. Now if a buyer is forced to pay their broker a commission of $12,807 (assuming 3% on $426,900) then they will likely elect not to have representation given how expensive it is to buy a home. The reason that sellers will not bring down pricing in this scenario is the harsh reality that the only thing that can bring down pricing is more supply. Even at current demand levels, we are millions of homes short in terms of supply. With interest rates at these levels, we now live in a market where inventory is low given sellers do not want to part with a 2.8% interest rate to get a 6.8% rate!
Each market will adapt to this settlement differently. Our law firm’s residential practice is focused on NYC and the Hamptons and those are two of the most affluent and unique real estate markets in the country. In markets such as these, it will largely be business as usual with sellers embracing that incurring this expense will help the marketability of their property. In the rest of the country, it will be a different story with many brokers who focus on buyer representation, starting to look for new careers.
Different measures could have been implemented to increase transparency on commissions. Dual agency could have been banned, where a listing agent can represent both parties and usually earn a 5% commission. The consumer undoubtedly benefits from transparency, but the consumer also benefits from being represented by a market expert, which prior to this settlement, was a free service. New types of brokerages and advisors will be created because of the changes from this lawsuit with all different types of compensation structures and with tech companies looking at this as an opportunity. Will they be as efficient and serve the consumers’ best interests? Only time will tell. Reality TV has created a false narrative of the brokerage industry by highlighting glitz and glamor along with only featuring those brokers who make a lot of money. Navigating the housing market is far more complicated than most people realize, and my fear is that this will cause more harm for buyers than it will good, and I do not think that is something that our lawmakers properly took into consideration.