The real estate industry is facing a massive yet slow reckoning on how it handles commissions.
At the end of October, a judge in Missouri ruled the National Association of Realtors and several brokerages engaged in illegal price-fixing when setting commission rates.
The industry currently requires that sellers offer compensation to buyers' agents in order to be listed on a local multiple listing service, or MLS. Those commission rates are often set around 5% or 6% and typically work like this—the home seller pays their agent, who then splits the commission with the buyer’s agent.
The decision puts those kinds of rates at risk, but changes won’t happen immediately. The National Association of Realtors plans to appeal.
Mike DelPrete, a scholar-in-residence at the Leeds School of Business, gives his take on what this means for the industry moving forward.
How did we get here? This didn’t just happen overnight, right?
There's been a bunch of industry lawsuits over the past couple of years, all challenging the status quo of how commissions are set and paid in the real estate industry. And the first one finally arrived at a judgment resulting in billions of dollars of damages being awarded to homeowners and home sellers in one particular state.
It’s the culmination of years of people looking at the industry and how commissions are paid and saying, “Well, this isn't fair—all these companies are collaborating and colluding with each other in order to keep those commissions high.” Now, the legal system has finally come in to say “enough is enough.”
So right now, home sellers are footing the entire bill on commissions?
When it comes to buying and selling real estate, it's awkward because not only are the sellers compensating the buyer's agent, the buyers don't have to pay the buyer's agent. There's no free market economy at work here to make those buyer agents actually prove and provide the value to the people they're representing.
If you want to buy a house, you might talk to an agent who will then show you around, negotiate, and do contracts. And it doesn’t cost the buyers anything. That means they’re not competing on price or value. They’re just there. Being compensated by the seller's agent means they just exist in the marketplace. A buyer, an agent, who's been in the industry for 30 years, gets paid the same amount as somebody who's been in the industry for 30 minutes.
Does that mean a buyer’s agent is working against themselves? Lowering the price means less money in their own pocket, right?
That’s right. The agent working for the buyer wants to get their clients the lowest price possible. But the lower the price, the less money the agent gets. Doesn't make sense. It’s a small amount though, a percentage of a percentage. And the buyer's agent fundamentally is going to be incentivized just to get the deal done. You know, in today's market and the market two years ago, four years ago—they want to get the deals done.
Could real estate agents lose their jobs if commissions are drastically reduced?
The implications here are potentially problematic for a lot of people and industries. Agents are contractors. They’re not getting paid a salary. If they make zero deals a year or 100 deals a year, they eat what they kill, right? It’s about how much work they do.
Part-time amateur agents may be more incentivized to leave the industry because it's going to be harder if they suddenly can't just rock up and show a potential buyer a bunch of houses, say it's free, and then get money if it sells. If they have to justify their value, it’s going to be harder and the competition is going to be fiercer.
Will this make homes more affordable?
What they're trying to do with the lawsuits right now will not help home affordability. It won't necessarily make it worse, either. This idea that commissions are 5% or 6%, and if we cut half of that away, suddenly the price of houses drops 3% across the nation is ridiculous. That's not how house prices get set. The market sets the price of the house and then there's a commission based on that.
What happens next?
Because this lawsuit was successful, now there's copycat lawsuits everywhere. They're just going to pop up left and right. And that's not sustainable. If the damages from this one lawsuit do get awarded, that would bankrupt all the defendants. We're not trying to bankrupt all these real estate brokerages here. We're trying to change the rules of the game. So over the next 12 to 24 months, everybody involved is going to have to get in a room and figure out what rules can actually be changed and enforced.
There are also a number of businesses that make money from these commissions. Companies like Zillow, Redfin, Opendoor—everything's up in the air right for them right now. From a business standpoint, this has the potential to really change how a lot of publicly listed companies generate revenue and provide value in that space. If you're an investor, everything's up for grabs. And it's a very risky time but also an opportunity for these existing businesses and new businesses to come in and tackle these challenges in new innovative ways.