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COMPETITION IN THE REAL ESTATE
BROKERAGE INDUSTRY
A Report by the April 2007
Jeffrey Schmidt, Director, Bureau of Competition Report Contributors: James C. Cooper, Deputy Director, Office of Policy Planning Inquiries concerning this Report should be directed to: James C. Cooper, Deputy Director, Office of Policy Planning 202-326-3367 or jcooper1@ftc.gov
Report Contributors: Anne Marie Cushmac, Counsel to the Assistant Attorney General Inquiries concerning this Report should be directed to: John R. Read, Chief, Litigation III Section 202-307-0468 or John.Read@usdoj.gov
TABLE OF CONTENTS
Competition provides American consumers lower prices, better quality services, and greater choice. In the residential real estate industry, competition is vitally important because buying or selling a home is one of the most important financial transactions a consumer will ever undertake. Given the size of the real estate industry,1 any restraints on competition in real estate brokerage will have significant adverse consequences for consumers. Moreover, because real estate broker commissions are typically a percentage of the home sales price, the dollar amount charged by real estate brokers has increased significantly in recent years as home sales prices have escalated.2 And, because the amount home sellers pay their real estate broker is built into the home sales price, both home buyers and sellers bear this expense.3 The residential real estate industry has undergone a number of substantial changes in recent years. Today, real estate agents and brokers are changing the way they operate and are increasingly incorporating the Internet into their business models in a variety of ways, such as offering potential buyers the option to view full, detailed multiple listing services ("MLSs") online, using websites to gather "lead" information on potential customers, and using the Internet to match home buyers and sellers. The increased ease with which home buyers and sellers can perform tasks that once were the exclusive domain of real estate agents and brokers likely has been an important factor in the increased demand for innovative, non-traditional real estate brokerage services.4 In fact, the Internet has surpassed the yard sign as the most important marketing tool to reach consumers.5 While there have been many positive developments in the residential real estate industry, there are some indications that consumers are not enjoying all of the possible benefits of competition in the real estate brokerage industry. A number of developments have raised competitive concerns, particularly laws and regulations in some states that limit consumer choice of real estate brokerage service offerings and that prohibit rebates to consumers, anticompetitive agreements among brokers, and industry practices that impede competition. These practices can lead to substantial consumer harm through reduced choice of real estate brokerage services, higher fees, and limitations on the ability to access information about real estate listings. Given how important competition is to consumers in this industry, the Federal Trade Commission ("FTC") and the Department of Justice Antitrust Division ("DOJ") held a public workshop in October 2005 ("Workshop") to address issues affecting competition in the residential real estate brokerage industry.6 Panelists at the Workshop included traditional real estate brokers, brokers offering nontraditional business models, state regulators, and academics.7 This Report presents an overview of the information provided and opinions expressed at the Workshop, as well as existing literature and studies, and examines some of the competitive issues raised at the Workshop and in other proceedings.8 Chapter I provides background information on the real estate brokerage industry, including the roles that real estate agents and brokers play in a typical real estate transaction; considers the importance of MLSs; and examines some of the alternative business models used by real estate brokerages. Chapter II discusses the impact of the Internet on the real estate brokerage industry and information asymmetries. Chapter III explores the competitive structure of the real estate brokerage industry and publicly available evidence concerning brokerage commission rates and fees. Chapter IV addresses obstacles to a more competitive market environment, including government-imposed impediments, MLS rules that can cause anticompetitive effects, and the importance of broker interdependence. The final part of the Report offers conclusions and recommendations. This Chapter provides an overview of the traditional real estate transaction and the participants involved in the process, discusses the important role of the MLS, and examines how the Internet has affected residential real estate brokerage-related services. It also identifies and describes certain types of nontraditional real estate business models, including: (1) full-service discount brokers; (2) fee-for-service brokers; (3) Virtual Office Website ("VOW") operators; (4) for-sale-by-owner ("FSBO") facilitators; and (5) broker referral networks. A. Overview of the Typical Real Estate Transaction At its most basic, real estate brokerage is about matching a home seller with a home buyer.9 As one panelist, who represents a major brokerage franchise, remarked, a home seller wants to "negotiate the best possible price in the quickest possible time."10 Brokers reduce the transaction costs of matching buyers and sellers and also provide their clients with ancillary services related to the transaction. Although there is no legal impediment to consumers buying and selling homes on their own, the large majority of consumers choose to work with a real estate broker. For example, a recent National Association of Realtors ("NAR") survey found that 84 percent of consumers employ a real estate broker to help them sell their home, and the vast majority of these home sellers appear to be contracting with real estate brokers to provide assistance on all aspects of the transaction.11 Another NAR survey found that nine out of ten buyers use a real estate professional during their home searches.12 The Internet also appears to be playing an increasingly important role in the real estate transaction. For example, NAR data show that the Internet was second only to real estate agents as the most commonly used information source for home buyers.13 Although the terms may vary by state, there are two principal categories of real estate brokerage professionals: "agents" and "brokers." Generally speaking, agents work directly with consumers and brokers supervise agents. Typically, agents solicit listings, work with homeowners to sell their homes, and show buyers homes that are likely to match their preferences. Instead of working with customers directly, brokers often provide agents with branding, advertising, and other services that help the agents complete transactions. In terms of branding, the broker may invest in and create a brand or affiliate with a national or regional franchisor that provides a brand with certain reputational value and an advertising campaign. As for services, brokers may provide agents with computers, website hosting, office space, training, and marketing. States require real estate brokers and agents to be licensed. These licensing statutes form the framework for state regulation and oversight of the profession by establishing requirements for licensure (such as minimum age, education, and experience) and various requirements and prohibitions regarding business practices and conduct. State commissions, frequently composed of real estate brokers, oversee drafting of and compliance with these laws and regulations.14 Brokers and agents (hereinafter, "brokers")15 usually are more informed about the local real estate market and the process of a real estate transaction than most home buyers and sellers.16 This informational advantage derives from two sources. First, only brokers have direct access to the MLS, which is a local or regional joint venture of real estate brokers who pool and disseminate information on homes available for sale in their particular geographic areas.17 The MLS provides information both on the homes currently for sale in a particular geographic area and past sales data, which typically are used in determining a home's listing price or a buyer's offer price. Second, most brokers have been involved in many more real estate transactions than their clients. This experience builds expertise in gauging market conditions and knowledge of the details involved in completing a real estate transaction. The typical real estate transaction involves several steps. First, if the seller chooses to hire a real estate broker rather than selling the home on his or her own, the seller contracts with a "listing broker." A home seller may consider any number of brokers before choosing one with whom to list the home, but NAR's 2006 industry survey notes that the majority of sellers contact only one listing broker.18 Once the seller has selected a listing broker, they enter into a contractual relationship called a "listing agreement" by which the broker agrees to market and sell the home in exchange for a set fee, typically in the form of a percentage commission. The commission "rate" is the percentage of the home sales price that the broker retains as a commission. Commission "fees" are the total dollar amount paid by consumers for real estate brokerage services. This contract often specifies the commission the homeowner will pay the listing broker if the home is sold within a specified period of time, how the home is to be listed in the MLS, and, as discussed below, the share of the commission to be offered by the listing broker to a so-called "cooperating broker," who works with the buyer.19 The listing broker typically markets the home, both within his or her brokerage firm and to other brokers in the community, by uploading the listing data, including the offer of compensation to cooperating brokers, into the MLS database so that the information can be disseminated to cooperating brokers, who in turn can inform potential buyers of the listing. There are three principal types of listing agreements. In the most common of the three, an "exclusive right to sell" contract, the listing broker receives a payment if the home is sold during the listing period, regardless of who finds a buyer for the home.20 In an "exclusive agency" agreement, the listing broker receives payment if any broker finds the buyer, but does not receive payment if the seller finds the buyer.21 In an "open listing," a broker has a nonexclusive right to sell the home and receive payment, but other brokers or the seller may also sell the home without any payment to the listing broker.22 The broker who works with the buyer is often referred to as the "cooperating broker" "or "buyer's broker."23 Cooperating brokers typically attempt to find housing from the available stock that match buyers' preferences, show prospective buyers homes for sale, provide them information about comparable home sales that have occurred in the area, assist prospective buyers in becoming pre-qualified for a certain level of financing,24 advise them on making offers, and assist in closing the transaction. Buyers typically do not pay their brokers directly.25 Rather, listing brokers compensate cooperating brokers according to the terms stated in the MLS listing, which usually specifies an unconditional offer of compensation to any broker that is the "procuring cause" of the sale.26 For example, a listing broker who charges a 6 percent commission may offer to compensate a cooperating broker with 3 percent, half of the listing broker's commission. As one panelist reported, it is common for a listing broker to offer 50 percent of his or her commission to a broker who provides a buyer who closes on the home, although this percentage may vary according to market conditions; in slow markets, a listing broker may offer higher compensation to attract scarce buyers, and this may be reversed in a hot market.27 Differences in offers of compensation may also arise based on local norms for historical reasons.28 The legal relationship between the buyer and the cooperating broker varies from state to state and has changed over time. Until the 1990s it was common for the cooperating broker to be a subagent of the listing broker, working on the seller's behalf.29 During the 1990s, most states revised their laws to allow buyer representation, and at the same time NAR revised its policies, eliminating seller-subagency as a condition of participation in the MLS.30 Today, after a decade of agency law reform across the country, it is more common for the cooperating broker to owe fiduciary duties solely to the buyer.31 In some states, however, a cooperating broker may be a "transaction" broker who has limited fiduciary duties to both the buyer and seller and whose role is to assure that the transaction proceeds smoothly.32 In all states, brokers are required to disclose to buyers the type of relationship that exists so buyers know whom the cooperating broker represents, although the timing of this disclosure varies by state.33 Once a buyer makes an offer on a home, the listing broker may help the seller evaluate offers and formulate counteroffers and may negotiate directly with the buyer or buyer's broker. If the seller accepts the offer, the home is "under contract," and, pursuant to contracts containing typical contingencies, several things must occur during a stated time period before the transaction closes, such as home inspections, appraisals, securing buyer financing, assuring the title to the home is clear, and conducting necessary repairs.34 Both listing and cooperating brokers typically work together to assure that all contingencies are satisfied, allowing the closing to occur as scheduled. As one broker- panelist explained, in addition to real estate brokers, many other actors are necessary to assure a successful closing, including the mortgage lender, the insurance agent, the home inspector, the termite inspector, the surveyor, the appraiser, the closing attorney (in some states), the title company, and the escrow agent.35 According to this panelist, the seller's broker and the buyer's broker "will work together to make sure that all parts of the transaction are facilitated appropriately," including "working through the transaction itself, meeting the home inspector, helping the seller and/or the buyer understand what the results of the inspection were, overseeing repairs, making sure that things that are necessarily time-sensitive get responded to in a time-sensitive manner."36 Once all contingencies have been satisfied, the parties proceed to closing, where they exchange purchase money and title to the home. One panelist noted that, in her experience as a broker, lenders' increased use of technology has streamlined the mortgage process, causing the average time from contract to closing to fall from forty- five to sixty days, to thirty days.37 The HUD-1 form required by the Real Estate Settlement Protection Act ("RESPA") is a centerpiece of the closing and requires a detailed listing of the flow of funds from buyer to seller and the use of funds, including selling and buying expenses associated with the transaction and the amount of commission paid to each broker. Although they typically do not play an active role at this stage, brokers often accompany their clients to the closing.38 The brokers are paid their commission at closing. B. The Multiple Listing Service Access to the MLS is one of the most important services that real estate brokers traditionally have offered. The 1983 FTC Report traces the evolution of the exchange of home information by brokers, from the weekly in-person "exchanges" of the Nineteenth Century to the formation of the modern MLS.39 The MLS has evolved still further since 1983, reflecting the rapid pace of technological developments during this period.40 The following two sections describe the present-day MLS and discuss its importance to home sellers, buyers, and brokers. The MLS is a local or regional joint venture of real estate brokers, typically operated by a local group of brokers affiliated with NAR, who pool and disseminate information on homes available for sale in their particular geographic areas.41 The MLS combines its members' home listings information into a database, usually in electronic form. The MLS then makes these data available to all brokers who are members of the MLS.42 By listing information on a home in the MLS, a broker can market it to a large set of potential buyers. A cooperating broker likewise can search the MLS to provide a home buyer with information about all the listed homes in the area that match the buyer's housing needs. MLSs are the primary source of home listings information because they contain real time information on virtually every home listed for sale in a given area, except FSBO homes. Most MLSs require that a member broker, upon acceptance of a listing, enter the listing into the MLS database within a short period of time, e.g., twenty-four to seventy- two hours. Although the specific data fields on each listing are determined by the individual MLS, they typically include detailed descriptions of the homes for sale, the asking price, the offer of compensation that will be paid to a cooperating broker who finds a suitable buyer,43 and the name of the listing broker. The MLS allows broker- members to search and filter homes based on detailed criteria, including property and neighborhood information, offers made on the home, prior sales history, and days on the market.44 In addition to the database of currently available homes, an MLS maintains a database of homes sold through the MLS. Brokers can use this database to provide their clients with information on sales of comparable homes so that the clients can more accurately value their homes or determine the amount to bid on a home. The MLS also operates an arbitration mechanism to resolve compensation disputes between listing and cooperating brokers. For example, if a cooperating broker secures a buyer for a transaction and can establish through arbitration that he or she was the "procuring cause" of the sale, then the listing broker is liable for the cooperative compensation.45 One panelist who is a real estate broker and past president of NAR described the MLS as "a broker-to-broker information exchange that provides an opportunity for cooperation and compensation."46 Another panelist, however, described the MLS as a "club" that can limit membership and access to MLS listings to firms that conduct business in a particular manner, thereby limiting consumer choice.47 This panelist, an economist, stressed that when competitors cooperate, as in an MLS, the rules governing that cooperation and the conditions under which the cooperation occurs must be examined closely.48 As the primary source of information about homes currently for sale and the prices at which other, comparable homes have been sold, the MLS is an extraordinarily important resource for sellers, buyers and brokers.49 Home sellers benefit from exposure of their listings to a wide audience of potential buyers, increasing the probability of selling their homes quickly and at an optimal price for those sellers.50 In addition, sellers, through their brokers, can use the MLS information on comparable homes to decide whether to sell their homes and, if so, at what price.51 According to NAR's 2006 survey of home buyers and sellers, 88 percent of sellers reported that their home was listed in the MLS.52 Buyers also benefit from the MLS because they can go to a single source (that is, a single broker) for information regarding the vast majority of homes for sale within a given area, instead of visiting multiple brokerages to obtain such information. Access to the largest number of potentially appropriate homes for sale allows buyers to maximize their chances of finding a home that most closely matches their desired characteristics.53 MLSs are so important to the operation of real estate markets that, as a practical matter, any broker who wishes to compete effectively in a market must participate in the local MLS. 54 As previously noted, brokers using the MLS reduce the costs of matching buyers and sellers and can market their service to a large set of potential clients. Further, by stating up-front the compensation being offered to a cooperating broker, the MLS can reduce the costs associated with listing brokers having to negotiate separately with each potential cooperating broker.55 As a result, the use of an MLS can substantially reduce transaction costs.56 The efficiencies associated with use of an MLS in the real estate industry are well documented in the real estate, legal, and economic literature57 and in court decisions.58 In the seminal case, United States v. Realty Multi-List, Inc., the Fifth Circuit described the various benefits offered by an MLS.59 First, the MLS reduces the "obstacles brokers must face in adjusting supply to demand: market imperfections are overcome in that information and communication barriers are reduced, along with the easing of the built-in geographical barrier confronting the buyer-seller relationship. Moreover, a realistic price structure is engendered. In effect, real estate becomes by virtue of the multiple listing service 'a more liquid commodity.'"60 Second, sellers benefit from wider exposure of their listings, while buyers benefit from reduced search costs.61 Finally, the court noted that "[t]he broker is particularly benefited by having immediate access to a large number of listings and at the same time by being furnished with a method for quickly and expansively exposing his own listings to a broader market."62 Due to these significant efficiencies and procompetitive features, the Fifth Circuit held that the alleged MLS-related restrictions at issue should not be condemned as per se illegal.63 At the same time, the Court held that the efficiencies and benefits flowing from the MLS, combined with other factors, resulted in the MLS having market power in a relevant antitrust market, thereby simplifying the rule of reason inquiry concerning the legality of restrictions imposed by the MLS and its members.64 C. Nontraditional Business Models Although the data show that most consumers currently contract with a broker that supplies the full range of services traditionally offered by brokers, many consumers prefer to use brokers whose business models are alternatives to the traditional one. Some consumers may also choose to work with non-brokers who offer services that will facilitate the marketing and sale of their homes. The growing popularity of some of these new business models is likely linked to consumers' increasing use of, and comfort with, the Internet. In this Section we discuss the following non-traditional business models: (1) full-service discount brokers; (2) fee-for service brokers; (3) VOW brokers; (4) websites that provide advertising and other assistance to sellers who choose not to use a broker; and (5) referral networks.65 Discount brokers offer buyers and sellers full-service real estate brokerage services at a price lower than the prevailing commission fees.66 For example, a discount broker may offer all of the services provided by a traditional broker for a 3 or 4 percent commission in an area where 6 to 7 percent is the prevailing rate. In addition, in states that do not prohibit them, brokers may offer rebates (i.e. cash payments) and inducements, such as gift certificates, coupons, vouchers, and discounted or free services relating to buying and selling a home, to buyers and sellers.67 These are incentives that typically are offered by cooperating brokers to home buyers to encourage them to use the brokers' services. For example, 1% Realty offers buyers a rebate of approximately 1 percent of the purchase price in states that have not prohibited rebates.68 Brokers sometimes also pay rebates to home sellers. For example, home sellers who are referred by one broker to another broker sometimes receive rebates. Additionally, some listing brokers pay their clients secret rebates rather than offering a lower listing commission in order to disguise discounting.69 Rebates are an important form of price competition under the traditional structure of real estate transactions because the seller and seller's broker, not the buyer's broker, determine the amount of the buyer's broker's commission via the listing agreement. Without rebates, if the buyer's broker were simply to reduce his or her commission, the savings would go to the seller's broker, not to the home buyer. As one panelist explained: the mechanics of the typical real estate transaction make it difficult for a buyer's broker to reduce the price of his or her services because the "custom of the industry" is for the listing broker to split his or her commission with the buyer's broker.70 Rebates, therefore, can be powerful tools for price competition between brokers. And by returning money to home buyers, rebates can also benefit home sellers, because buyers will have more to spend on the home as opposed to commission payments. Fee-for-service brokers – sometimes also referred to as "flat-fee" brokers or "limited-service" brokers – represent a departure from traditional full-service brokers who typically charge a commission based on the sales price in return for a bundle of services. Fee-for-service brokers offer home sellers the option to purchase less than the full bundle of services traditional brokers provide. Different fee-for-service brokers may offer different arrays of services, and home sellers can pick and choose the services they wish to procure from the provider or providers of their choice. Most fee-for-service brokers offer sellers two or more service packages, and many offer an additional itemized list of optional services. This business model is likely to benefit consumers who do not want to forgo broker assistance completely but who feel comfortable handling many aspects of the transaction without such assistance. Fee-for-service brokers often offer an MLS-only package, which allows consumers, who are not permitted by MLS rules to list their homes in the MLS on their own, to list their homes in the MLS by contracting with a broker who is a member of the local MLS.71 For a flat fee (e.g., $500), the broker would list the home in the local MLS and make an offer of compensation in the MLS to other brokers who may cooperate in the sale of the home. The broker typically would retain the flat fee whether or not the home ultimately sells. If a cooperating broker ultimately secures a buyer for the home, he or she would receive the cooperating commission.72 A seller who finds a buyer without the help of a cooperative broker, however, would not pay this compensation. MLS-only packages offered by fee-for-service brokers typically include other services provided via the MLS. These include advertising the seller's listing on Internet websites that home buyers search directly (e.g., Realtor.com)73 and on other MLS members' websites. Additionally, fee-for-service brokers typically provide the client additional selling aids, such as yard signs, online advertisements, and a lock-box to allow buyers' agents to show the home when the seller is not present. In addition to the MLS-only package, many fee-for-service brokers offer other services. The Agencies' review of fee-for-service broker websites indicates that most offer at least two tiers of service and the complete array of traditional services at a reduced commission. Thus, consumers who purchase the MLS-only package, but later feel they need more assistance with their transaction, typically can obtain it from their broker for an additional fee. For example, one Workshop participant who operates a flat- fee brokerage stated that about 30 percent of his clients who sign up for a flat-fee listing eventually purchase additional brokerage services.74 This panelist's website offers the flat-fee listing at $595, but also offers two other packages: "flat-fee plus," which costs an additional $1,500 and includes negotiation and post-contractual assistance, and full- service brokerage for a discounted percentage fee.75 Further, many fee-for-service brokers allow their clients to cancel their listing agreement at any time, leaving consumers free to pursue other brokerage or non-brokerage options if they become dissatisfied with the broker's service. Although many brokers who specialize in the fee-for-service option are not affiliated with major national brokerage chains, some brokers who are affiliated with such chains offer fee-for-service or flat fee brokerage options.76 Although brokers using these models have existed since the 1970s, industry participants told GAO that the Internet has allowed such brokerages to grow in numbers and size in recent years, in part because they can market their services to a larger population of buyers and sellers.77 VOWs are Internet websites through which brokers offer brokerage services online to their registered clients.78 The unique feature of VOW operators is that these brokers offer their clients the ability to search online the same MLS information that other brokers provide to their clients through other delivery methods, such as hand delivery, mail, fax, or email.79 Under NAR rules, VOWs may provide clients with more MLS information than can be provided by publicly accessible broker websites that are governed by NAR's Internet Data Exchange ("IDX") policy, discussed in Chapter II. Access to the VOW and its listings search features is limited to prospective buyers or sellers who have entered into an agreement with the VOW operator that includes a terms-of-use agreement.80 The VOW permits clients to search the database at their leisure until they are ready to contact their broker for assistance in viewing the home, making an offer, etc. While many buyers may see this as a benefit that allows them greater control over their home-buying process, brokers may also benefit. For example, brokers may reduce the time they spend servicing each customer face-to-face because customers conduct a portion of the time-consuming listings searches on their own.81 Although brokers offering VOWs differ from other brokerages in their innovative uses of the Internet, in other respects they operate like other brokers. VOW brokerages typically maintain physical offices in the markets in which they operate, staff those offices with licensed brokers who participate in their local MLSs, and represent both buyers and sellers.82 One panelist who worked with eRealty, an early discount broker that operated a VOW,83 described aspects of its business model. eRealty was a licensed brokerage and employed licensed agents.84 It provided the ability to search MLS data online to bona fide buyers who had registered for a password, monitored the MLS, and reported to its clients when any listing came up that fit a profile that the client had pre-established.85 In this way, the VOW model allows consumers to substitute their search effort for that of a broker: The e-Realty model . . . allows the client to initially bypass the Realtor by becoming a client of e-Realty and conducting his own search. . . . Therefore e-Realty can often charge a lower commission than traditional Realtors since there has been no time expended searching through the MLS.86 eRealty also would "communicate instantly through email or any device [clients] needed to assist [them] with scheduling of appointments and the whole scheduling of the transaction all the way through to close."87 eRealty gave a 1 percent rebate to buyers and also took listings from home sellers.88 The panelist emphasized that this business model took the MLS "a step beyond" cooperation and compensation in a business-to-business exchange and used the "power of the information in [the MLS] to better serve consumers."89 As he explained, consumers "expect systems, servers, to do the grunt work of searching for homes, gathering data on schools and neighborhoods, monitoring new listings, and the reporting whenever a listing fits their profile, [and] scheduling appointments . . . to help them see the home."90 Some consumers choose to sell their homes without any assistance from a real estate broker. These sellers are referred to as "for-sale-by-owners" or "FSBOs," and they market their homes themselves by placing ads in local media, posting signs, and conducting their own open houses. MLSs do not allow FSBO homes to be listed in the local MLS because a listing broker member is not involved. FSBOs often offer payment to a broker representing a buyer. Several companies offer services to help FSBO sellers. For example, there are several websites devoted to advertising FSBO homes.91 One Workshop panelist representing a major FSBO website explained that his company allows home sellers to post color photos, virtual tours, and 3,000-word descriptions that are searchable by potential home buyers.92 According to this panelist, the industry average price for this service is a flat fee of approximately $300. These websites often will also provide potential home buyers with general information on neighborhoods, such as demographics, crime rates, and school quality. Further, many provide links to ancillary service providers, such as title insurance companies, escrow services, and home inspectors, and also provide sample forms related to real estate transactions, such as sample purchase or lease agreements.93 Some national Internet websites aggregate some of the MLS data from across the country and allow potential home buyers to search the databases. After the potential buyer has searched the information online and is ready to visit homes in a particular area, the website refers him or her to a local broker. This broker pays a referral fee – typically a portion of the commission – to the referral website that aggregated the MLS data. The referral website may then rebate a portion of its referral fee to the consumer, if state law or regulations do not prohibit rebates. Other referral websites do not display aggregated listings, but use Internet marketing to advertise their referral services and rebates to consumers. One panelist represented RealEstate.com, a business that uses the Internet to build a network of local brokers and agents.94 Participating brokers and agents pay a cooperative brokerage fee to the company for referrals, and RealEstate.com cultivates buyers by using online tools and information and, where permitted, by offering the buyer a rebate.95 The buyers are then referred to the local broker for further assistance.96 As this panelist noted, the Internet and the new business models are "about unleashing brokers to have the ability to use new methods and tools to expand, to succeed and to succeed in this market that is competitive."97 According to NAR's 2006 Profile of Home Buyers and Sellers, 83 percent of home sellers who retained a broker used one who provided the traditional "full" array of services; 8 percent hired a broker who listed the seller's home in the MLS and performed few, if any, additional services; and 9 percent hired a broker to provide a broader array of services, but short of full-service.98 NAR data show that the number of FSBOs – consumers who sell their homes without the assistance of a real estate professional – has been declining. NAR's 2006 Survey estimated that FSBOs account for about 12 percent of home sellers, with an additional 5 percent of sellers first trying the FSBO route, but then retaining a broker to complete the sale.99 NAR's 2005 data estimated FSBOs at approximately 13 to 14 percent, and noted that this number has been steady since 2001, and is lower than it was for the 1990s: 19 percent in 1991; 17 percent in 1993; 15 percent in 1995; 18 percent in 1997; and 16 percent in 1999.100 II. THE INTERNET'S ROLE IN REAL ESTATE BROKERAGE The Internet has had a significant impact on the real estate industry, leading to a diversification of business models to serve consumers. Some have suggested, however, that the industry has not yet experienced the sort of sweeping benefits to consumers in the form of cost savings and service enhancements that have been seen in other industries from the use of the Internet and other technology.101 This Chapter examines how the Internet has increased consumer access to information about real estate and how this increased access has in turn affected consumer behavior. This Chapter also discusses the Internet as a means of providing real estate brokerage and related services to consumers. Finally, this Chapter addresses gaps in consumer knowledge that may exist despite the extensive information now available on the Internet. A. Increased Consumer Access to Real Estate-Related Information By reducing the cost of transmitting and searching information, the Internet has enabled consumers more easily to educate themselves about all facets of home buying and selling. For example, before the introduction of the Internet, consumers had to learn about homes for sale through real estate brokers, or through various offline marketing vehicles, such as yard signs, newspaper advertisements, or real estate magazines. These techniques are still important and commonly used, but consumers now have access to listing information from a variety of online sources as well. Many brokers market listings online through their own websites and give their MLSs permission to place their listings on Realtor.com.102 Consumers can view these listings before contacting or forming a relationship with a particular broker. The source of listings for many of these advertising websites is the MLS. In accordance with NAR rules, the MLSs create an "Internet Data Exchange ("IDX"), a datafeed that participating brokers may use for their individual advertising websites. Broker IDX websites enable home sellers to get greater exposure for their listings, and enable home buyers to search listings, both on national IDX websites (e.g., Remax.com), and on broker websites focused in a local area. According to a NAR survey of home buyers and sellers, broker IDX websites were among the top three most popular websites searched by buyers, with 40% of buyers conducting their home searches on these websites.103 In addition, many MLSs contribute the IDX datafeed to some of the most popular publicly accessible websites like Realtor.com, a national website that NAR owns. Although these IDX websites, as explained more fully below, provide critically important avenues for brokers to advertise their listings to potential buyers and their agents, these websites are not a substitute for the MLS. In contrast to VOWs and to brokers' "brick and mortar" offices, websites that rely on an IDX datafeed contain less information than the actual MLS database, and that information may be out of date.104 If a broker opts to not participate in the IDX, which NAR's rules allow, none of the broker's listings are included on the IDX datafeed, and he or she cannot operate a website based on an IDX datafeed. Therefore, IDX datafeeds may contain listings on fewer than all of the homes listed for sale in the MLS's area. IDX datafeeds can also be less complete than the full MLS listings database because each MLS determines which datafields to include in the IDX datafeed. For example, it is not uncommon for MLSs to withhold the home address, a critical piece of information for brokerage clients, from the IDX datafeed. Some MLSs also withhold such datafields as the detailed description of the home or the property disclosures. Finally, IDX-based websites often will be missing some homes that recently have been listed for sale and include some that are no longer for sale because there often is a delay between an update of MLS data and when those changes are reflected in the IDX datafeed. Panelists representing traditional brokers acknowledged that the listings information provided via an IDX datafeed is limited. For example, one panelist explained that "what you see in the MLS is more detailed information [than is displayed on IDX websites], but again, [brokers] have access to that [information in the MLS], and [brokers] can provide that to the consumer."105 The same panelist elaborated on the advantages of MLS data: Anyone who is a member of the realtor organization, whether they are a discount broker, a limited service broker or a full-service broker, have their listings in the Multiple Listing Service, and in that broker-to-broker cooperative environment, that is real time information for me to be able to deliver to my customer or client, the buyer, and real time is important, especially if you happen to be in a seller's market, because the advertising vehicles [i.e. IDX websites] that are out there on the internet are not real time, and by the time even that a consumer might be able to see something online, it could be gone.106 As this panelist explained, access to full MLS, rather than limited IDX datafeeds, is "extremely valuable" because it allows agents to tell consumers "the minute that something is listed, 'Let me tell you, there was a new listing that just popped up, it's matched your criteria, I think we ought to go out and look at it.'"107 In addition to listing information derived from MLSs, consumers also can view homes for sale on third-party advertising websites such as Craigslist.com, and on a variety of websites that promote homes that are for-sale-by-owner.108 Further, the Internet helps consumers to educate themselves about other areas of home buying and selling. For example, consumers can use the Internet to research brokers,109 mortgage and lending options, 110 and recent home sales and home valuations in their community.111 Consumers also can find information about schools, crime, and other variables related to home purchase decisions through a host of online sources, including websites hosted by their municipalities. Several Workshop panelists and commenters remarked on how the Internet has expanded the amount of information available to consumers, making them more knowledgeable as they enter into real estate transactions. One commenter concluded: "Today's sellers and buyers are more educated and more knowledgeable thanks almost entirely to the growth of the [I]nternet."112 A panelist described the Internet as "a very highly effective marketing tool as well as a tremendous information resource and communication tool."113 Another commenter observed: More individuals are researching available properties for sale. Buyers can themselves gather key bits of information about property location, flood history, contract status, room dimensions, etc. Sellers are better able to determine comparable prices for similar houses, helping them to gauge the appropriateness of a listing price suggested by an agent.114 One panelist opined that "a generation of Americans are now comfortably and constantly connected to the [I]nternet and to [eC]ommerce. They instinctively start with the [I]nternet before they search to buy anything. They do extensive research online."115 Industry-produced data appear to support this view. A recent NAR survey of home sellers and buyers concluded that "[t]he most significant trend in the home search process is the increasing importance of the Internet as a source of information about homes and the characteristics of different communities."116 Among the evidence supporting this conclusion is the finding that in 2006, 80 percent of home buyers used the Internet during their home searches (up from 71 percent in 2003).117 In addition, in 2005 and 2006, 24 percent of recent home buyers first found the home that they purchased on the Internet – up from only 2 percent in 1997.118 Conversely, the number of buyers reporting real estate agents as the first source of such information has decreased from 50 percent in 1997 to 36 percent in 2005 and 2006.119 Among the most popular websites used by home buyers in their searches were Realtor.com (52 percent of respondents), MLS websites (53 percent), and real estate company websites (41 percent).120 Features ranked as most useful among home buyers searching for a home on the Internet were photos (identified as very useful by 83 percent of home buyers), detailed property information (81 percent), and virtual tours (60 percent).121 Brokers surveyed by NAR cite the Internet more frequently than any other method, including yard signs, as a way to market homes.122 B. The Internet's Effect on the Real Estate Industry By placing more information in the hands of consumers, the Internet has facilitated the growth of nontraditional business models – such as fee-for-service brokers, VOWs, and broker referral networks – that allow consumers opportunities to substitute their efforts for those of the broker, in many cases in return for lower fees. These lower fees reflect the lower cost of serving consumers who are "easier to serve" because they perform substantial online research themselves.123 According to one commenter, "With individuals assuming more of the responsibility to gather and assess information, less time and effort is required by real estate agents in assessing market conditions (for sellers) and in identifying and showing houses [(for buyers)]. The cost of an agent's service, therefore, should go down reflecting this shift in burden."124 Consumers differ in their willingness, ability and opportunity to use the Internet to perform functions traditionally provided by brokers. While many consumers may be willing to perform search tasks themselves, they may be more likely to continue to rely on brokers for assistance related to the transaction process because it involves expertise derived from broker experience.125 For buyers, this may mean performing much of their early search by themselves online and contacting a broker only after they have become familiar with market offerings and are ready to start placing offers on homes. For sellers, this may mean setting their own sales price and relying on the wide online exposure of MLS listings rather than broker effort to market their home, and hiring an agent only to list their home in the MLS and for assistance in closing the transaction. While the Internet clearly has had a significant impact on the real estate industry, one Workshop panelist, an economist, opined that the real estate brokerage industry has not experienced the types of technology gains benefiting consumers that have been seen in other service industries, such as making airline and other travel reservations and buying and selling stocks.126 Several factors may be limiting wider use of the Internet. The resistance of some traditional brokers to dealing with firms that more fully or innovatively use the Internet is one factor that could limit realization of the Internet's full potential.127 Restrictions on the availability of real estate listing information can also limit the economic benefits that Internet use provides.128 Even with the significant amount of information currently available on the Internet, there may be gaps in knowledge by some consumers in several important areas that may result in real estate brokerage markets functioning less efficiently. First, it appears that many consumers are not fully apprised of their marketplace options. For example, the most recent NAR survey of home sellers and buyers found that the majority of home sellers contact only one listing agent before hiring one to assist with the sale of their home.129 Further, there is evidence that some consumers of brokerage services are not necessarily aware that commission rates are negotiable.130 This may be especially true of buyers who pay for their brokers' services indirectly via the purchase price of the home.131 Although some Workshop comments suggest that consumers' awareness of their ability to negotiate over the price and terms of brokerage services is increasing,132 perhaps due to the increasing numbers of discount brokers that have entered the industry over the past few years, some consumers do not negotiate over commission rates. Second, consumers may be unaware of the possibility that their brokers may have conflicting interests that lead them not to provide the consumer with the best possible advice. As discussed in more detail in Chapter IV, brokers have certain incentives to "steer" consumers toward those homes that offer the highest cooperating broker commission payment and away from homes listed by brokers known to charge home sellers discounted commission rates. In this manner, brokers can take advantage of their superior knowledge of market conditions by steering clients away from home listings that otherwise match the criteria identified by the consumers, but provide lower financial gains for the broker than other homes.133 Home buyers' increasing use of the Internet may limit brokers' ability to steer buyers away from discounters' listings without their knowledge. As noted above, 80 percent of consumers use the Internet to search for homes in 2006.134 To the extent that consumers have greater knowledge of the stock of housing for sale than they used to, brokers will be less able to exclude a particular listing from home buyers' searches without their knowledge. If a home buyer finds a discounter's listing on his or her own that appears to be a good match, a broker likely will either have to show the home buyer the discounter's listing or explain why he or she will not.135 In addition, consumers also may be unaware that when they pay their broker a commission based solely on a percentage of the sales price at closing (as most do today),136 the broker's financial incentives are not necessarily aligned with the consumer's. On the sell side of the transaction, the consumer's interest is to sell the home at the highest possible price. Even though an agent's commission increases with the price of the home, he or she likely retains no more than 1 to 2 percent of the sales price (after paying the cooperating broker and the agent's brokerage firm).137 Therefore, the agent may be less willing than the consumer to take the risks associated with getting a higher sales price, such as waiting for what might be a better offer and perhaps having to do additional work.138 Likewise on the buy side of the transaction, the broker may be less interested than the consumer in negotiating the lowest possible sales price because a lower sales price translates into a lower commission for the broker, likely requires additional work, and may increase the risk that the transaction falls through with no commission paid to the broker. Consumers may be unaware of these potential conflicts of interest. Some commentators have posited that alternative payment structures may better align consumer and broker interests.139 III. COMPETITION AMONG BROKERS Real estate brokers compete to attract customers in different ways based on price and non-price dimensions. To compete on price, they can offer lower commissions to home sellers and, where permitted, rebates to home buyers. On the service dimension, they can offer more assistance or convenience to customers. Brokers also compete for customers by marketing their services to potential buyers and sellers in various ways. Although consumers benefit to some extent from all of these forms of competition, the available data suggest that brokers may compete less on price than would be expected in a competitive market. Even though national average commission rates have fallen steadily since 1991 and commission rates appear to vary inversely with housing prices, it appears that rates are sufficiently inflexible to cause commission fees to move in tandem with housing prices. The recent run-up in housing prices illustrates this phenomenon: from 1998 to 2005, housing prices rose 37 percent in real terms and, although national average commission rates appear to have fallen from 5.5 percent to 5 percent, average brokerage fees per transaction rose 26 percent in real terms during the same period.140 At the same time, the efficiencies generated by the Internet and other technological advances suggest that broker costs should be falling. The evidence also suggests that rising per-sale profits for brokers induce entry by new brokers so that the average number of sales per broker declines. This Chapter explores evidence concerning competition among brokers. Section A examines the structural features of the real estate brokerage industry. Section B describes the nature of competition among brokers and views about the current state of competition presented by Workshop panelists and commenters. Section C presents the available data on actual commission rates and fees. Section D reports one panelist's attempt to make sense of the evidence presented in Sections A through C. A. Structural Features of the Real Estate Brokerage Industry Although a detailed exploration of all industry characteristics was beyond the scope of the 'Workshop, participants focused on a variety of characteristics, including broker concentration and entry into the industry.
Competition among brokers is primarily local because real estate is fixed in a geographic location, and buyers and sellers often want some in-person interaction with a broker who has experience and expertise relevant to that particular location. For example, a broker in Alexandria, Virginia, competes with other brokers able to meet the needs of consumers who are buying and selling homes in the area; this is likely to include other brokerage firms located in and around Alexandria, but not those located in California. Recent research supported by NAR states that "the U.S. real estate industry is a collection of many local real estate markets."142 Although nationwide market shares provide little information about local market concentration, national-level data do demonstrate that there are many brokerage firms and agents, and that most brokerage offices consist of a small number of agents. According to a Workshop panelist, there are approximately 98,000 brokerage firms operating over 200,000 local offices in the United States.143 These offices provide potential employment for approximately 2.5 million real estate licensees (of which more than 1.2 million are members of NAR).144 In 2004, 96 percent of brokerage offices in the United States employed ten or fewer agents.145 From 1983 to 1999, the portion of brokerage offices with five or fewer agents increased from 51 percent to 60 percent.146 In contrast, the portion of offices with a sales force of more than 50 agents never exceeded 5 percent during that time period.147 There is conflicting information regarding the percentage of home sales nationwide accounted for by the largest real estate firms. NAR reported in its public comment that in 2004 the top ten brokerage firms in the United States had a combined 9.1 percent market share, the top twenty firms had a 10.9 percent share, the top 100 firms had a 17 percent share, and the top 500 firms had a 26.6 percent share.148 In addition, according to NAR, the two largest brokerage firms in the industry had only 4.1 percent and 1.7 percent market shares, respectively.149 The market shares reported by NAR appear to be based on the nationwide shares of individual brokerage firms, most of which do not have a nationwide presence. However, in many cases, individual brokerage firms exist under common ownership or as part of a franchise system. For example, Realogy – through its franchises and wholly-owned brokerages – claims to have "participated in approximately one of every four domestic homes sold through a brokerage in 2005."150 In any case, competition among brokerages tends to be local, and brokerage shares calculated at the local level can be far higher than those suggested by national data.151 For example, in Re/Max International, Inc. v. Realty One, Inc., the plaintiff's expert presented "essentially unchallenged" testimony explaining that "[i]n a majority of the 161 cities and towns in northeast Ohio, the [two] defendants' combined market share exceeds 50%."152 In Mid-America Real Estate Co. v. Iowa Realty Co., the court found that one company accounted for over 50 percent of all residential real estate transactions in Des Moines, Iowa, (when FSBO sales are considered) or approximately 60 percent of all sales completed through the local MLS in Des Moines.153 In a study of the State College, Pennsylvania, area, researchers found that "the largest brokerage firm maintained 31% of the listings and 30% of the sales. The second largest brokerage firm accounted for 22% of the listings and 20% of the sales. Each of the next four largest firms enjoyed less than 10% of the listings and sales."154 A study of real estate transactions obtained from the Lincoln, Nebraska, MLS reported that although homes in the sample were listed by fifteen brokerage firms, "[t]wo of these firms listed 75% of the properties in the sample, with the remaining listings fairly evenly distributed between the other thirteen firms."155 The requirements for becoming a real estate licensee (i.e. an agent) do not appear to be substantial. A 1983 FTC Staff Report on the real estate brokerage industry observed that "the nearly universal opinion is that there are no significant barriers to entry, if entry is construed as gaining a license in order to practice."156 Namely, an individual agent primarily needs to meet state licensing requirements and affiliate with a licensed broker. Several Workshop panelists expressed a similar view. According to one panelist, "there are no significant barriers to entry or expansion in the residential real estate industry. As a result, there has been a dramatic number of new agents and new entrants into the industry in recent years."157 Another panelist, a NAR economist, stated that in 2004 "253,000 [licensees] entered the market, became realtor members, and 127,000 dropped out, indicating that the market is fairly dynamic, that there's free entry, free exit."158 He noted that between 1998 and 2005, while the number of home sales increased about 50 percent, the number of NAR members increased about 67 percent.159 Some commenters stressed the ease with which one can become an agent. For example, one industry participant stated: "Becoming a real estate agent is far too easy and too fast for what the service contemplates: The sale of what for many people is both their most important asset, and the one thing that physically binds their family together: a home."160 Brokerage entry appears to be more difficult than agent entry. At a minimum, an entrant that wants to establish a brokerage must hire or become a licensed broker.161 Additionally, an entering broker may require an agent workforce, office space, office staff, and advertising of their listings to establish name recognition. Establishing such name recognition could be aided by affiliating with a national franchise (e.g., Prudential or Re/Max). The examples of relatively high local market shares for brokerages described above suggest that agent entry is more common than brokerage entry. B. The Nature of Competition Among Brokers Brokers compete for clients on several dimensions by offering the most attractive service and price combination.162 Competition among brokers based on service to consumers includes a wide range of possibilities. Brokers can provide varying degrees of assistance to buyers, such as performing MLS searches for homes for the buyer or allowing a buyer on-line access to MLS data to perform such searches on his or her own. They can provide varying levels of service to sellers in marketing their homes, such as holding open houses more or less frequently. To facilitate a particular transaction, "[b]rokers can help sellers (and buyers) to varying degrees throughout the entire transaction process: helping the seller set the asking price, guiding buyers when they formulate their offers, providing guidance through the maze of paperwork faced by buyers and sellers and recommending reliable inspectors, lawyers, mortgage brokers, etc."163 Additionally, brokers expend varying degrees of effort involving a wide range of activity, including marketing their own services to potential buyers and sellers. Broker marketing can include paid advertisements in television, radio, print, or online media; informal networking to meet potential buyers and sellers; and giving away pumpkins at Halloween. Competition among brokers on price primarily occurs through lower commission fees and rebates. In the majority of transactions, the commission fee is determined by multiplying the commission rate negotiated in the listing contract by the home's actual selling price. In other cases, brokers may charge a flat commission fee for certain services or bundles of services. Alternatively, brokers may adopt a combination of flat fees and a commission rate. Since cooperating brokers do not directly participate in negotiating listing contracts, rebates offer a way for them to compete on price.164 There were contrasting views among Workshop participants and commenters about the extent to which brokers compete on the price dimension. The FTC's last report on real estate brokerage, twenty-three years ago, stated: The evidence indicates that brokerage commission rates are quite uniform within local markets. In most markets, the prevailing rate is either 6 or 7 percent. Furthermore, the dollar value of commission fees per transaction has increased very substantially in recent years when compared to the general rate of inflation or the incomes of other white collar workers. At the same time, there is at least some evidence that brokerage industry productivity apparently has declined in recent years. . . . Available statistics, therefore, strongly suggest that forces other than free competition are affecting the level at which commission rates are set.165 Some claim that things have not changed.166 Some commenters observe that the relative inflexibility of commission rates coupled with rising home prices has caused consumers to pay more in commissions, and that if brokers competed more on commission rates, commission fees would be lower.167 Moreover, citing consumers' increasing use of the Internet in real estate transactions and the substantial savings that the Internet has brought to consumers across numerous service industries168, some commenters maintain that the Internet should also be reducing the costs of providing real estate brokerage services.169 In its comment, the American Bankers Association ("Association") observed that "[one] would expect to see variations in brokerage commissions across geographical regions as the supply and demand varies dramatically across the United States, but little if any variation exists."170 If the market were competitive, according to the Association, commissions could fall as much as by half.171 The Association calculated that, assuming the standard of living is the same today as it was in 1990, when the average commission was 6.1 percent, the commission rate necessary to generate the same real return today would be only 4.34 percent.172 In contrast to the views of the Association, NAR173 reported in its public comment that the residential real estate brokerage industry is "fiercely competitive" and that commission rates "are set by market forces in order to attract clients."174 NAR rests its conclusion in large part on particular attributes of the industry, which, according to NAR, "resemble[] a perfectly competitive industry structure with production at the lowest possible cost and consumers benefiting from competitively determined prices."175 Several other commenters claimed that there is vigorous price competition. One broker described the competition that he faces as follows: "In about 95 percent of the leads I get, I have competition from at least one other Real Estate Agent, and on listing appointments, I am often competing against [two] to [three] other Agents, and I lose quite a few [to] those who list with lower commission rates."176 An agent who has been in the business for less than a year stated: "Realtors are competing fiercely on the price at which they will take listings. In my own experience, I have already lost listings to brokers who have offered to take the listing at a lower brokerage fee."177 Several commenters also provided anecdotal evidence regarding falling commission rates in various areas of the country.178 One commenter, for example, stated: "Real estate is very competitive in Arizona. I see agents advertising commissions as low as 2%. The norm years ago was 7%, then 6% . . . now there is not a norm. It varies greatly."179 Another commenter observed that "[t]he 6% commission of long ago has decreased to 4 or 5% on the majority of deals."180 Some commenters identified discount and fee-for-service brokers as key drivers of price competition. One agent claimed that, due to the prevalence of discount brokers, real estate agents "are confronted with the question how much can you reduce your commission? It is a standard question now."181 Another agent at a full-service firm reported that "since we go up against limited service firms all the time, we are having to reduce our commission rate to keep the client."182 These observations are similar to those of the GAO, which noted that competition from nontraditional brokers may be partially responsible for a recent decline in commission rates.183 C. Commission Rates and Fees: Empirical Evidence184 In light of the contrasting views presented above, it is reasonable to ask what empirical evidence reveals about commission rates and fees in recent years. Unfortunately, as one author recently noted, "There is not much empirical evidence on commission rates. The data are usually proprietary and not readily available to the public or to academic analysts."185 Consistent with this observation, none of the Workshop participants or commenters provided data on commission rates or fees.186 To our knowledge, REAL Trends is the only source that publishes commission rate data. REAL Trends publishes nationwide average commission rates. Its data are derived from a survey of the top 500 brokerage firms in the country and a group of rising firms just below the top 500. Table 1 lists REAL Trends national average commission rates and fees from 1991 through 2005. Fees, measured in constant 2006 dollars, are based on median home prices so as to represent what a typical consumer would pay in real estate commissions to sell his or her home. As illustrated in Figure 1, commission rates have fallen gradually over this time period, from 6.1 percent to just over 5 percent.
Figure 2, however, shows that despite the downward trend in rates, the dollar amount of commission fees appears to have increased closely in line with rising housing prices. Growth in home prices was relatively flat through most of the 1990s and real commission fees did not surpass their 1991 levels until 2002. At the same time, as housing price growth accelerated from 2001 through 2005, real commission fees rose about 25 percent. 
Figure 3 illustrates annual percent changes in real housing prices and commission fees from 1992 through 2005, and provides additional illustration of how fees tend to move in tandem 
with housing prices. For most years, the annual percent change in real commission fees is very similar to the annual percent change in real housing prices. Other studies have examined REAL Trends data and have made the same observations about patterns in commission rates, housing prices, and brokerage fees. For example, Weicher calculates that although the average commission rate as reported by REAL Trends fell by 16 percent (6.1 percent to 5.1 percent), because the average price of existing housing increased during this period ($128,400 to $236,000), the average inflation-adjusted commission per transaction increased by 11 percent in dollar terms between 1991 and 2004.187 More specifically, Weicher's analysis indicates that inflation- adjusted commission fees per home sale declined by approximately 7 percent between 1991 and 1998, but increased 19 percent between 1998 and 2004.188 The GAO, also using REAL Trends' commission rate data, reached the similar conclusion that commission rates do not appear to have changed enough to offset rapidly rising home prices in recent years.189 Specifically, the GAO observed that a decrease in commission rates from the prevalent 5.5 percent in 1998 to an estimated 5 percent in 2005, a 9 percent decrease in commission rates, was more than offset by a 58 percent increase in the median inflation-adjusted home sales price. "Thus, with the increase in housing prices, the brokerage fee (in dollars) for selling a median-priced home increased even as the commission rate fell."190 Data reported to the Securities Exchange Commission by Realogy, the largest brokerage firm in the United States, are consistent with these findings. For example, recent Realogy data indicate that between 2002 and 2006 Realogy's average commission rate declined about 7 percent while the average sales price for the homes they sold increased about 30 percent. As a result, Realogy's inflation-adjusted average commission fee increased from about $11,600 in 2002 to about $14,000 in 2006, an inflation-adjusted increase of about 22 percent.191 Rather than using REAL Trends aggregated data, some researchers have analyzed commission rates on a transaction-by-transaction basis to determine the extent to which commission rates vary in relation to a variety of market factors. The studies have focused on, among other things, the distribution of commission rates within certain geographic areas and the relationship between commission rates and various property characteristics (such as the age of the home or the list price), market conditions, and the amount of time that the home spends on the market.192 In late 1979 and early 1980, the FTC staff conducted a national survey of recent home buyers and sellers. Each survey participant who had sold through a broker was asked the commission rate that had been quoted by the broker. The staff found that 85 percent of the sellers surveyed were quoted a commission rate of either six or 7 percent by their broker. 193 More specifically, approximately 53 percent were quoted a rate of 6 percent, while approximately 32 percent were quoted a rate of 7 percent.194 Factoring in after-the-fact reductions in prices (including rebates and gifts provided by the brokers), 78 percent of those surveyed were actually charged commissions at those rates.195 These results are comparable to those revealed in a sample of HUD-1 forms from the latter half of the 1970s collected by HUD for its own purposes, which showed that 77 percent of sellers were charged a commission rate of 6 or 7 percent.196 Although the average commission rates based on the HUD-1 forms varied across metropolitan areas, in eleven of the sixteen cities surveyed 80 percent or more of the commission rates actually paid were equal to either 6 or 7 percent.197 A 1982 study analyzed the relationship between commission rates and several variables, including the price of the home, whether the home was a new or existing home, and whether the sale involved cooperation from another broker.198 The sample data included 1,107 transactions drawn from seven cities in 1975, 485 transactions drawn from eight cities in 1978, 1,769 transactions drawn from eight cities in 1979 and 3,895 transactions drawn from all 50 states in 1979.199 For each transaction, data on actual commission rates paid were obtained from HUD-1 forms. The study found that in 23 percent of the market areas (i.e. city or state) under examination, as home prices increased, commission rates decreased.200 However, despite a lower commission rate, the results imply the dollar magnitude of the commission fee paid was considerably higher for higher priced homes.201 The study also found that commission rates associated with sales of existing homes were higher and less varied than rates associated with new homes.202 On average, the commission rate paid on sales of existing homes was approximately 1.2 percentage points higher than the rate paid on new home sales.203 Finally, the study found that commission rates in transactions involving cooperating brokers were on average approximately 0.4 percent higher than rates in non-cooperative transactions. According to the author, "[t]he [HUD-1] data clearly reveal systematic variation in the actual home brokerage commission rates according to the three variables examined."204 A 1988 study analyzed the relationship between the commission rate offered to cooperating brokers and the selling price of the home.205 The sample data were comprised of 532 home sales drawn from 1983 and 1987 sales data in the Knoxville, Tennessee, Board of Realtors' MLS.206 The study found that the cooperative commission rate was negatively related to the sales price of the home and positively related to the percent of the list price achieved by the seller.207 The authors concluded, "[t]hese results provide strong evidence that the presumption by previous researchers that real estate brokerage firms are unwilling to negotiate differential rates is inaccurate."208 In a 1997 study, the authors tested a theoretical model relating commission rates to changes in a local housing market.209 This study addressed both how the distribution of commission rates varied across home prices within a geographic area and with changes in economic conditions across an entire area over time. The sample data (provided by a local MLS) consisted of 15,608 single-family home sales in the Baton Rouge, Louisiana metropolitan area from 1985 through 1992.210 Similar to the two studies described above, the authors found that the listing broker commission rate varied statistically significantly with a variety of home characteristics.211 For example, commission rates declined, albeit at a decreasing rate, with the list price of the home.212 However, despite a lower commission rate, the authors' estimates showed that the actual commission fee paid rose with housing prices. These authors also considered whether commission rates within the Baton Rouge market responded to market-wide changes akin to housing booms and busts. They found a counter-cyclical pattern for commission rates. In other words, as the demand for housing and sales prices increased, commission rates declined. However, the authors' statistical results suggest commission rates are relatively inflexible.213 This result is consistent with the findings based on Real Trends data described above: as home sales prices have increased since 1991, commission rates have declined, but not in proportion to increases in home sales prices. * * * Overall, the evidence suggests that while commission rates may vary modestly with housing prices and overall market conditions, they do not tend to vary in proportion to changing home prices. As a result, inflation-adjusted commission fees per transaction appear to follow closely movements in home sales prices. In other words, commission rates are relatively inflexible. Although neither commenters nor Workshop panelists presented evidence to explain the cause of relatively inflexible rates, this phenomenon has meant that the price that consumers paid for brokerage services rose considerably during the recent run-up in housing prices. D. One Explanation of the Seemingly Contradictory Descriptions of Broker Competition The evidence presented above shows a dramatic increase in agent entry in recent years coupled with claims of intense competition among brokers. Yet, consumers are paying almost 25 percent more for brokerage services, after adjusting for inflation, than they did in 1998. A Workshop panelist, Chang-Tai Hsieh, an academic economist, offered one possible explanation of how, in the presence of relatively inflexible commission rates, the increased entry and non-price competition by brokers can reflect an inefficient constraint on price competition. According to Hsieh, in a booming real estate market, relatively stable commission rates imply higher commission fees per transaction and an increased profit opportunity for agents. Because becoming an agent is easy, an increasing number of people enter the industry in search of these higher profits. But with more and more agents competing to close transactions, the average number of transactions per agent will decline. Further, if commission rates are relatively inflexible, such that agents do not seek to attract customers by offering lower rates, agents will compete along other dimensions to gain clients.214 For instance, agents may expend resources "prospecting" for listings by, for example, door-to-door canvassing, mailings, providing potential clients with free pumpkins at Halloween, and calling on FSBO sellers.215 Marketing is often beneficial to consumers and competition,216 and some consumers may benefit from the enhanced service competition in this market. But when competition occurs primarily along such dimensions, brokers may expend more resources providing additional services than the value of those services to consumers.217 According to Hsieh, real estate agents may be competing intensely but do so primarily by expending resources to gain listings rather than competing by lowering their commission fees, a phenomenon Hsieh calls the "tragedy of the commission."218 The "tragedy" of relatively inflexible commission rates, according to Hsieh, is not just that consumers receive more services and fewer commission fee reductions than many consumers might prefer, but that the agents themselves are no better off.219 Because the ratio of agents to buyers and sellers has increased, agents have to work harder to find clients and consequently spend less time actually closing transactions.220 In this manner, a larger number of agents dissipates the increased profit opportunities by incurring additional expenses to close transactions. Further, this theory suggests that because agents compete profits away by incurring additional expenses to provide these services, rather than lowering their commission rates, they operate at inefficiently high cost levels.221 Hsieh provided empirical evidence at the Workshop consistent with competition in the brokerage industry occurring primarily in non-price dimensions. Drawing on commission rate data from the 1983 FTC Report and examining census data on commissions from the period of 1980 to 1998, Hsieh (and his co-author) found evidence suggesting that regardless of home selling prices, commission rates appear fairly stable around 6 percent over the relevant time period and across markets.222 Hsieh studied 282 cities over eighteen years and found that in cities with higher housing prices (and thus higher commission fees and higher profit opportunities for agents): (1) there are more real estate agents relative to the city's workforce; (2) these agents are less productive (measured by sales per agent or sales per hour worked); and (3) wages for agents are not higher than they are in cities with low housing prices. He concluded that these empirical findings are consistent with his hypothesis that "higher commission fees in more expensive cities are dissipated by excessive entry of brokers."223 Hsieh estimated the social waste resulting from such excess entry for the year 1990 – the latest year of their analysis – at between $1.1 and $8.2 billion.224 Hsieh's observations using earlier data are consistent with other reported market conditions. Namely, there has been substantial agent entry in recent years225 and the average number of transactions per agent declined by 20 percent from 2000 through 2005.226 Even though the income available from each transaction increased over the time period, according to NAR, the "typical" income of its members fell from $52,000 in 2002 to $49,300 in 2004, while the income of sales associates (who comprise two-thirds of NAR's membership) decreased from $41,600 to $38,300 during the same time period.227 A NAR economist appearing on a Workshop panel explained: "That's not surprising. The number of new agents entering the market in the past couple of years has outpaced the home sales growth and even the home price growth. So, given the fact that the Realtor membership has increased far more than actual home sales, it's not surprising that the median income has fallen."228 A remaining question, not resolved by Workshop participants or commenters, is why commission rates are relatively inflexible.229 Regardless of the answer, it is desirable that brokers have the freedom to offer a variety of price and service combinations to attract consumers. In particular, in light of the evidence presented above regarding the relatively limited competition among traditional brokers on the price dimension, innovators should not be discouraged by industry policies or government regulations from offering more flexible commission rates. In the next Chapter, we turn to obstacles innovators may be encountering. IV. OBSTACLES TO MORE ROBUST COMPETITION In recent years, the Agencies have become aware of actions taken by state legislatures, industry regulators and private actors that have the effect of restricting competition in the real estate brokerage industry. This Chapter discusses these actions and the Agencies' responses. It also addresses the role that the cooperative nature of real estate brokerage may play in shaping competition in the real estate brokerage industry. A. Legislative and Regulatory Restrictions on Competition This Section examines three types of restraints imposed by state laws and regulations that are likely to reduce competition and consumer choice in the real estate brokerage industry: anti-rebate laws and regulations; minimum-service requirements; and overly broad licensing requirements. As discussed in Chapter I, rebates can be powerful tools for price competition among brokers. Rebates are permitted in most states, and brokers in these states may freely advertise their willingness to offer rebates that save consumers hundreds and often thousands of dollars per transaction. Rebates currently are prohibited by law, however, in ten states: Alabama;230 Alaska;231 Kansas;232 Louisiana;233 Mississippi;234 Missouri;235 New Jersey;236 North Dakota;237 Oklahoma;238 and Oregon.239 In addition, Iowa240 prohibits rebates when the customer uses the services of two or more brokers during a real estate transaction. Rebate bans inhibit price discounting and thereby harm consumers. For example, in states allowing rebates, some brokers operate business models pursuant to which they rebate up to one-third or one-half of their commission to their buyers. Because cooperating brokers typically receive 50 percent of the overall commission, a broker who returns half of his or her commission to the client provides a 25 percent discount on the overall commission payment; rebating one-third provides approximately a 16 percent discount. For example, if a cooperating broker were to earn half of a 5.1 percent commission and offer a 50 or 33.3 percent rebate, a consumer would save $3,459 or $2,306 in commission payments, respectively, on the sale of a $271,263 home.241 Consumers in states with rebate bans could enjoy a similar level of savings only if such bans were eliminated. While action by a state through legislation is generally immune from federal antitrust enforcement, not every act of a state governmental entity is protected by state action immunity.242 When actors other than the state itself (e.g., the legislature or state supreme court) unreasonably restrict competition under the guise of state authority, those actions may be subject to antitrust scrutiny.243 For example, where rebate bans have been imposed by state real estate commissions, DOJ has investigated, and where appropriate challenged, these restrictions in order to bring the benefits of price competition to consumers. In March 2005, DOJ filed a civil antitrust lawsuit against the Kentucky Real Estate Commission, alleging that its regulations prohibiting Kentucky real estate brokers from offering rebates restricted competition and caused consumers to pay higher prices for real estate brokerage services.244 The lawsuit was settled on July 13, 2005. Under the terms of the settlement, which was approved by a federal judge, the Kentucky Real Estate Commission agreed to cease enforcement of its rebate prohibitions,245 allowing Kentucky consumers to avail themselves of the benefits of increased competition through broker- offered rebates, discounts, and other inducements.246 During the course of the investigation, DOJ found evidence that brokers wanted to restrict rebates because they understood that rebates are a form of pric | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||