It's August in Washington, a time of year when the President, Congress, and much of the local bureaucracy is out of town. A quiet time, a time to ponder new and different ideas....
Imagine if the practice of real estate brokerage were suddenly modified. No longer would referral fees be allowed. From now on, the only people entitled to a commission would be the very brokers who participate directly in a local transaction and sign sale agreements.
At first this may not sound like an especially terrific proposal. In the world of real estate brokerage, a prospect represents the potential for income. If Smith is a broker in Oregon who recommends broker Jones in Cleveland to a transferring buyer, that recommendation has value. Jones may well reap business that would otherwise have been missed. And Jones, being suitably grateful, will send a check to Smith when the transaction closes.
One reason for Smith to recommend the Cleveland broker is that Jones is well known for competence. It could be that Smith and Jones are part of the same real estate franchise or organization, hold the same professional designations, know one another through the Internet, or are related through Aunt Flotsam in Missouri. Or, maybe Jones pays the biggest referral fees of any broker in Cleveland.
For Smith referral fees are good money, the trade of a business opportunity for cash. If Jones is good at what he does, a referral fee is virtually assured.
So what's the big deal?
Doctors, as an example, routinely ban referral fees and a similar standard might advance the profession of real estate for a variety of reasons.
First, the buyers in our scenario, the folks from Oregon, know and trust Smith and so they rely on his recommendation. But you have to wonder how many buyers realize that somewhere in the recommendation process money can change hands.
Second, if something goes wrong, Smith may be liable. It may be that Jones has a hidden side -- he's incompetent, doesn't properly represent buyers, and in his role as head of the local hate group does not feel especially-obligated to treat all parties fairly and fully. In a litigious society, Smith will no doubt hear from the buyers' attorneys.
Third, what work was done by Smith and what is the value of such labor? If it took Smith an hour to obtain basic financial and housing preference information, then compensation for that hour is appropriate. But if compensation is a big number, then the real reason for payment is the ability to supply a name, a so-called "naked" referral for the most part.
Fourth, end the referral muddle and a lot of Internet squabbles will disappear. Listings posted online by every licensee but the listing broker might finally and actually be "free advertising."
Fifth, buyer brokers and listing brokers would both be fully paid for their services, without fees reduced by referral costs.
Sixth, corporations could pay for employee transfers by simply getting a copy of the HUD-1 at closing and issuing a check.
Seventh, brokers would not be surprised by after- the-fact referral claims. "Mr. Conklin visited an open house we sponsored in 1957 and thus we have an eternal and exclusive agency agreement which applies to him, his current spouse, any future spouse(s), and all descendants born on or before June 14, 2185. Please send your check to...."
Okay, so what would happen if the system were changed. No referrals allowed. Why would Smith recommend Jones?
A very good reason might be that Jones is competent, holds certain designations, is within a franchise or organization, has good recommendations from professionals and consumers, or is known to Smith.
Certainly Smith might hope for a similar courtesy in the future, but that's not assured and cannot be relied upon. Absent a referral fee, the most valuable and likely benefit for Smith will occur when the buyers tell Oregon friends and neighbors about how well Smith was able to help with their transfer.
There are other benefits as well. The shrinking "broker dollar" -- the money brokers actually hold onto after a transaction is completed -- would be substantially larger if referral fees could be eliminated. Broker liability would be reduced and it might be that rates for errors and omissions insurance would drop significantly for those who did not offer or collect referral fees. And real estate transaction dollars would remain in the community, something which seems eminently fair given that real estate is a localized commodity.
But most importantly there would be clarity. The public -- as it does with physicians -- would understand that when a broker makes a recommendation, it's because the suggested professional is simply the best person to do the job. You wouldn't want your gall bladder removed by a surgeon whose leading qualification was an ability to pay steep referral fees, so why would you want that with someone handling your largest lifestyle and financial transaction?