Why Are Real Estate Practitioners Paid On Commission?

  How the commissions (the fee real estate practitioners "earn" for selling a house), came into being and what the future will bring.

Several years ago The GBR Business Report ran a story on real estate commissions. It discussed how the commissions (the fee real estate practitioners "earn" for selling a house), came into being and what the future will bring.  It goes without saying that the way the real estate industry is structured, and the way practitioners are paid is a bit of a mystery, particularly when you factor in that what is "the norm" (even though commissions are purportedly "negotiable"), is taken for granted until you're facing the possibility of selling a house.  Perhaps sharing some insights on the way we got to where we are today will give you a better appreciation for this side of the business, likewise, will shed light on why an agent earns his/her keep in such a way and from whence the practice originated - keeping in mind that its very nature is referred to by many practitioners as a "feast or famine" way of making a living (and that's not far from the truth for many!).

The "standard" commission as we've come to know it today, came into practice in the 1940s, when local Realtor boards came together to "fix" the rates their members could charge for services leading to the sale of real estate. Some of the practices prior to this "re-organization" were fraught with dishonesty and abuses of all sorts, particularly towards the ill-informed consumer, who would sometimes be the victim of deceptive practice, such as "net fee" arrangements, or paying a hefty "flat fee," and in the worse of the cases, unsuspecting and trusting consumers would sign over the property on a type of arrangement where payment would come after certain events, leading to these machinations. While the practice of a unilateral percentage of the sale price quickly became the norm, (the fee is a cost to the seller, typically), there have been onslaughts on this practice by people and companies that literally don't buy into this arrangement, e.g., folks who would rather do-it-themselves avoiding a commission, or companies that cater to these types, where they charge some type of consultant fee or a minimal brokerage for a minimalist menu of services (a breakdown of some of the typical services a full-service broker provides under the "traditional" model).

However, before we get away from the backdrop of why the fee that an agent expect might not appear apropos to the consumer, let's first review what any good agent does to earn his keep - besides putting up a For Sale sign and waiting for the buyer to buy your house.

• Marketing: Includes advertising, promotion, traditional, i.e., Multiple Listing, and via the internet. This is a critical component in a good agent's arsenal, s/he has all the tools in place to adequately promote the property to the most-likely buyer (group) from which to elicit the best and highest offer your property can command, and you should expect (from the research done beforehand) -- leading to a sale.

• Representation: Includes advocacy for your best interest, knowledge of pricing strategies - insuring that you are fully apprised of factors affecting valuations; consulting on financial and fiscal implications of the transaction; advising on best financial and fiscal options given your circumstances; insuring compliance with mandated ordinance and due diligence obligations, e.g., completion of disclosures, inspections, and the likes; all the while keeping your interest at the forefront to insure a smooth sale.

• Research: Includes investigating the competition, the market trends, and factors influencing the sale and appeal as it relates to the circumstances, e.g., sellers sell for a variety of reasons, and a good representative takes these reasons into account; also, depending on local and regional norms, recommends strategies to enhance the marketability of the property to specific target groups, i.e., staging, videos, open house, tours, etc.

• Negotiations: Includes making the best case on your behalf for what you expect in price and terms, particularly if the research is thorough, and confirms your entitlements. Handle the actual agreement(s) to buy/sell between you and the buying party, insures that the terms are both clear and understood, and adhered to by all concerned.  Generally works to make sure your end of the bargain is being met in as much as can be done with and through other parties, etc.

Additionally, with the advent of complex and time sensitive transactions, e.g., short sales, foreclosures, and the likes, the agent also negotiates with the lien-holders, achieving an effective transition and insuring compliance with even more burdensome activities and processes as are typical in such sales. 

• Transactional Management: Once a buyer has been secured, in a "typical" sale (as opposed to a short sale), there will be a plethora of steps and coordination of processes, e.g., disclosures, signatures, inspections, appraisals, evaluations of financing applications, further negotiations of anything that is uncovered along the way, escrow and title issues, insuring all timelines are adhered to, etc. During this task and time sensitive stage, there is a delicate balancing act to get thing right and on time. Conversely, if things are not in line, the agent steps in to make things right - with your best interests and intent (as stipulated in the agreement) at the forefront, among other things.

These and many other tasks are the domain of a good agent and agency. If anything is typical of the process is that there is nothing so standard that one can lump any sale into an "average sale".  Yes the standards are there, otherwise there would be no standards across the board, but, each transaction has unique qualities that require a seasoned practitioner's expertise, if not know-how to address.  Now that you have a slightly better perspective of what an agent does to earn his/her keep, let's continue with the topic at hand.

The original intent of the Realtors was to "standardize" the fees in order to prevent abuses and/or disparity in the way practitioners would be compensated.  However, in 1950, the U.S. Supreme Court declared this violated antitrust laws, so they adopted "suggested fees," however, that too met with an unfavorable response. The Department of Justice sued in the 1970s effectively nixing that as well, setting the Realtors up to make commissions "implicit," yet the local bureaus or departments of Real Estate, governmental regulators, mandated that all commissions be negotiable.
This leads us to modern day real estate. There are numerous studies showing that the average commission rates across the country remain fairly consistent at about 6%, although market conditions impacts on this rate slightly. As of late, with the advent of internet model companies where they offer huge incentives, there have interesting results.  While these companies aim to make enough of an impact on buyers and sellers to win them over with those incentives, they have yet to show a profit or to be viable alternatives to the traditional agent.  Furthermore, these cyber companies offer very little in the way of actual person-to-person dealings, relying instead on algorithms and the sorts, and leaving much to be desired for the consumers' experience.

There will continue to be an evaluation of the way real estate is sold, however, one thing can be sure, whenever two parties come together on anything of such importance -- like buying a house, unless there is unanimity in this event, there will be room for misunderstanding or disagreements, and such muses.  As such, an agent, if for only this reason, serves as a good buffer to allay concerns and insure compliance, and ultimately the sale.  Now the question is, what is that worth to you (on top of all the other tasks and responsibilities outlined previously)?

And, unlike what some say that an agent isn't worth as much as whatever percentage you are able to negotiate, one thing is certain, if you're dealing with a true professional, and not a neophyte, you'll soon discover that this person is your best resource for a variety of things, not the least of which is installing a for sale sign to get the house sold!

Originally posted on CA by J.Mario Preza