The real estate brokerage business has a public relations problem. The public views them as making money hand over fist, but in reality, the margins are fairly small. Many full service brokerage companies can make more profits associated with ancillary services like title and mortgages than in their core businesses. Why?
The residential brokerage business structure is flawed:
The law of thirds: If the talent pool of a typical brokerage firm is divided into thirds by productivity, it becomes more apparent what the problem is.
Superstars – (Top third): These agents make the highest commission splits and make the most money personally. They are the role models for the remainder of the agents in firm. The brokerage firms often make little money off of this group after deducting their related expenses.
Want To Be Superstars – (Bottom third): These are the new agents who are learning the business, the part time agents who do very little business and the agents who just don’t produce. There is tremendous turnover in this group and most full time agents here can’t last here very long unless they move up.
Next In Line to Be Superstars – (Middle third): This classification is the most profitable group of agents for the brokerage firm because their fee split is not as high as the Superstars and they consistently perform unlike Want To Be Superstars. Ironically, brokerage firms spend a great deal of effort to teach them to be less profitable for the firms themselves (Superstars).
And now to make matters worse, there is a growing discussion to cut commissions or change the commission system all together. Since the beginning of time (well sort of) traditional brokerage fees are paid as a percentage of the sales price rather than at a flat rate. The industry talks about the percentage paid out as falling which is a misonomer since the dollars paid out during the boom increased despite falling percentages.
Mark S. Nadel’s A Critical Assessment of the Standard, Traditional, Residential Real Estate Broker Commission Rate Structure [AEI-Brookings], analyzes five elements of the traditional residential real estate broker rate structure, the most important of which are: 1) setting fees as a percentage-of-sale-price, 2) letting the seller’s broker set the fee received by the buyer’s broker, and 3) refusing to unbundle the price of a full package of services.
While I am not endorsing the current commission setup, one of the flaws of the logic in this type of study, is that it gives the impression that agents make money hand over fist. This report lacks analysis of time spent in the profession by agents not making money. For every commission paid out, there is endless time spent with buyers and sellers who do not buy or sell a property. Its the cost of doing business.
In addition, the market will dictate what buyers and sellers want. If there is demand for flat fee services and low commission structures, then the market will gravitate toward that direction.
I would venture to guess that in a weakening housing market and rising competition between listings, alternative forms of brokerage will lose their some of their edge as buyers and sellers feel less experimental and want full service.