Editor’s note: This month, Inman News is focusing attention to the issue of real estate compensation. Click here to find out more. In this guest essay, CondoDomain.com founder Anthony Longo offers a perspective on the percentage-based real estate commission structure.
Yes, the day of the standardization of 6 percent commissions is dead. How long will it take for the industry to realize this? That is the new question.
Now, don’t get me wrong, I am not attacking the industry, commission dollar amounts or high-paid all-star agents (many who are worth every penny). I am simply talking about the "percentage-based commission structure."
If a top real estate broker in New York City is on average making $50,000 per transaction, I am not staking the claim that they should not be making $50,000 per transaction — they may, in fact, be worth it — possibly even worth more. My belief and statement is that the "standardization" and commonality of the 6 percent commission in the industry is dead and 2009 will be the year in which we will see major movement to innovative fee-based business structures.
Where we are today
The real estate commission structure is what it is most likely because it is easy to calculate and it is easy to "fit" into the sliding scale of individual home pricing. It is universal and it seems to work just about everywhere. Every state, every city, every neighborhood — and on the surface it sometimes makes sense. A $300,000 buyer can afford to pay only "X" amount of commission and a $3 million buyer can obviously afford more. Although this makes sense on the surface, it makes absolutely no sense in reality, especially today’s reality.
But there are two sides to every story and most often there are two sides to every real estate transaction: including buy-side and sell-side brokers.
As a seller, it is quite possibly a good idea to have your agent tied to a percentage-based commission on the sales price. After all, your agent’s compensation is tied to the highest possible price he can negotiate for you. Not bad, actually — this kind of makes sense.
But looking at it in reverse, as a buyer, the buyer’s agent makes LESS commission for negotiating the lowest possible price for you. This is not in line. It doesn’t make much sense. Actually, it does not make sense at all.
It is completely backwards, in my opinion. If you want to pay a buyer’s agent on a percentage-based commission, a reverse algorithm would be most warranted for them to work their tail off to get you the lowest possible price, right? The way it exists now is that a buyer’s agent makes less money when they do a BETTER job at negotiating for you.
Let’s look at the entire percentage-based puzzle as a whole. Real estate has evolved and always has been a commission-based business model, mainly because real estate used to be all about sales and marketing, right? Everything was based on selling the property for the highest possible price because all the agents were working for the seller, directly or indirectly. So I don’t want to attack that the percentage-based commission structure has always been wrong. Actually, for a very long time, it was probably the most appropriate way to cut a deal (agent to seller).
Broker service breakdown
A breakdown of the core skill sets, costs and everything associated with both sides of the transaction (sell-side and buy-side):
- Talent — marketing skills, a good design eye, a great memory, etc.;
- Experience — number of transactions, number of toured properties, number of successful negotiations, etc.;
- Relationships — media contacts, marketing outlets, buyers, sellers;
- Time — amount of time you spend with a client to transact on that deal.
I believe that talent, plus experience and relationships, equals performance. Time is just another part of the equation to combat a true value for services. After all, a real estate broker (buy-side or sell-side) renders a service.
If we could start all over with a clean slate today, I think you could put a value on these four bullets — and that is what an agent or broker should be charging (of course in this world today, the transparent marketplace would be setting the rates).
Most likely the value would be different for every agent in the marketplace — certainly every brokerage operation. Then the market would determine the cost of the service, rather than a huge association like the National Association of Realtors or the history and longevity of a particular structure.
If you look at brokers today, you will see the cream rises to the top. The best agents and brokers work with the most expensive listings. Why? Because for the same amount of time and energy spent, these agents can make exponentially more income compared to marketing lower-priced properties.
It makes sense, and I applaud the few agents and brokers who have gotten to this level. But this simple statement makes the point for me. And while many think that the rich do not mind spending large commissions on brokering real estate, they are wrong. The rich most often are the most caring for each and every dollar they have earned.
A problem with percentage-based compensation
Let’s look at a typical buy-side deal:
- Buyer searches for homes online. Let’s face it, nearly all buyers start their home search online;
- Eventually the buyer takes the search offline and hits some open houses;
- Buyer may talk to friends and family to get referrals and meet some agents in their travels;
- Buyer inquires on non-search things in between, such as seeking information from mortgage consultants;
- Buyer eventually meets an agent and engages with the agent to help with the search;
- Buyer finds property and agent begins negotiations;
- Negotiations met, contingencies are worked through;
- Agent brings value by making sure the transaction moves forward;
- The closing occurs.
Now every deal is different, every single one, but for this example alone let’s say we actually have two exact plain-vanilla deals that take the exact same amount of time, with the exact same amount of tours, effort, skill set in negations, etc. Exact. Got it? But buyer "A" spent $300,000 and buyer "B" spent $3 million.
OK, here is the question: Stating that there is a 3 percent co-broke commission on these identical deals, please explain why the broker for buyer "B," who will make $90,000 in commissions, should be paid 10 times more than the broker for buyer "A," who will make only $9,000 in commissions for doing the exact same amount of work?
The future
The industry commission structure will change, but it certainly will not be tomorrow. I think in these economic times we will see great changes happen more and more often.
As an innovator who thinks the percentage-based commission structure is ludicrous, I do understand how it has evolved and how it is so very hard to change. I believe most agents and brokers who make a living selling real estate are not at fault for this percentage-based commission structure — they are just performing what they have been taught in the industry.
In a nutshell: On the sell-side of things, with percentage-based commissions — although still pricey and in need of some alteration — the values and needs are aligned between the seller and listing agent. However, on the buy-side, that isn’t the case. This side of the transaction will change rapidly, as it should.
Anthony Longo is founder of Web-based buyer’s brokerage CondoDomain.com.
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