Real Estate Brokerage: Various Factors May Affect Price Competition
Published: 2006-07-25T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: Consumers paid an estimated $65.7 billion in residential real estate brokerage fees in 2005. Observing that commission rates have remained relatively uniform--regardless of market conditions, home prices, or the effort required to sell a home--some economists have questioned the extent of price competition in the residential real estate brokerage industry. Furthermore, while the Internet offers time and cost savings to the process of searching for homes, Internet-oriented brokerage firms account for only a small share of the brokerage market. This has raised concerns about potential barriers to greater use of the Internet in real estate brokerage. In this testimony, which is based on a report issued in August 2005, GAO discusses (1) factors affecting price competition in the residential real estate brokerage industry and (2) the status of the use of the Internet in residential real estate brokerage and potential barriers to its increased use.
section_title: What GAO Found
paragraphs: The residential real estate brokerage industry has competitive attributes, but its competition appears to be based more on nonprice factors, such as reputation or level of service, than on brokerage fees, according to a review of the academic literature and interviews with industry analysts and participants. Although comprehensive data on brokerage fees are lacking, past analyses and anecdotal information suggest that commission rates have persisted in the same range over long periods, regardless of local market conditions, housing prices, or the cost or the effort required to sell a home. One potential cause of limited price variation in the industry is the use of multiple listing services (MLS), which facilitates cooperation among brokers in a way that can benefit consumers but may also discourage participating brokers from deviating from conventional commission rates. For instance, an MLS listing gives brokers information on the commission that will be paid to the broker who brings the buyer to that property. This practice potentially creates a disincentive for home sellers or their brokers to offer less than the prevailing rate, since buyers' brokers may show high-commission properties first. In addition, some state laws and regulations may also affect price competition, such as those prohibiting brokers from giving clients rebates on commissions and those requiring brokers to provide consumers with a minimum level of service. Although such provisions can protect consumers, the Department of Justice and the Federal Trade Commission have argued that they may prevent price competition or reduce consumers' choice of brokerage services. The Internet has changed the way consumers look for real estate and has facilitated the growth of alternatives to traditional brokers. A variety of Web sites allows consumers to access property information that once was available only by contacting brokers directly. The Internet also has fostered the growth of nontraditional residential real estate brokerage models, including discount brokers and broker referral services. However, industry participants and analysts cited several potential obstacles to more widespread use of the Internet in real estate transactions, including restrictions on listing information on Web sites, some traditional brokers' resistance to cooperating with nontraditional firms, and certain state laws and regulations that prohibit or restrict commission rebates to consumers.

section_title: Letter
paragraphs: I appreciate the opportunity to be here today as you consider issues  related to residential real estate brokerage—that is, the bringing together  of buyers and sellers of homes and the provision of related services by  licensed brokers and agents. My statement today is based primarily on  GAO’s August 2005 report on the residential real estate brokerage  industry.
The fees paid for residential real estate brokerage have increased as home  prices have risen in recent years, well beyond the rate of general price  inflation. While comprehensive data do not exist, REAL Trends, an  industry source, estimated that in 2005 consumers paid about $65.7 billion  in real estate brokerage fees related to home sales, up from approximately  $43 billion in 2000. Payments to brokers are typically percentage  commissions, or a percentage of the sales price of the home. An observed  tendency toward uniform commission rates regardless of local market  conditions has led many economists and other observers to question the  level of price competition—that is, the rivalry among firms to attract  clients on the basis of price—in the residential real estate brokerage  industry. While the emergence of the Internet offers the potential to  reduce costs by generating efficiencies and new ways of doing business,  and many consumers now use the Internet to search for homes and related  services such as mortgages, Internet-oriented brokerage firms represent a  small share of the market. This has raised questions concerning potential  institutional, legal, and other barriers to greater “e-commerce” in real  estate brokerage.
My statement today discusses (1) factors affecting price competition in the  residential real estate brokerage industry and (2) the status of the use of  the Internet in residential real estate brokerage and potential barriers to its  increased use. In preparing our August 2005 report, we reviewed academic  literature and interviewed and obtained documents from industry analysts,  the National Association of Realtors® (NAR), residential real estate  brokerage firms and franchisors, the Department of Justice (DOJ), the  Federal Trade Commission (FTC), and others. We also reviewed relevant  selected state laws and regulations and state and federal court decisions.  Academic studies that we reviewed for our work are listed at the end of  this statement.
While the residential real estate brokerage industry has competitive  attributes—such as a large number of relatively small firms and ease of  entry—competition in this industry appears to be based more on nonprice  factors, such as reputation or level of service, than on price. Although  comprehensive data on brokerage fees are lacking, past analyses and  anecdotal information suggest that commission rates have persisted in the  same range over long periods, regardless of local market conditions,  housing prices, or the cost or the effort required to sell a home. Our review  of the academic literature and interviews with industry analysts and  participants suggested several potential causes of this apparent lack of  price variation. Multiple listing services (MLS)—the local organizations  through which residential real estate brokers share information about  properties for sale—facilitate cooperation among brokers in a way that  can benefit consumers, but may also discourage participating brokers  from deviating from conventional commission rates. For example, the  practice of showing the commission that buyers’ brokers will receive for  cooperating in the sale of a property may discourage brokers from offering  less than the prevailing commission rate. In addition, some states prohibit  brokers from giving clients rebates on commissions, and some states  require or are considering proposals to require brokers to provide  consumers with a minimum level of service. Although such laws may offer  some consumer protections, DOJ and FTC have argued that they can  potentially prevent price competition or reduce consumers’ choice of  brokerage services.
The Internet has increased consumers’ access to information about  properties for sale and fostered the growth of Internet-oriented real estate  brokerage models, including some discount brokers and services that refer  clients to brokers. However, industry participants and analysts cited  several potential obstacles to more widespread use of the Internet in real  estate transactions. These obstacles include the extent to which property  information is made available for brokers to post online, the resistance of  some traditional brokers to cooperate with nontraditional firms, and  certain state laws and regulations that prohibit or restrict commission  rebates to consumers.
subsections: section_title: Background
paragraphs: Traditionally, real estate brokers have offered a full, “bundled” package of  services to sellers and buyers, including marketing the seller’s home or  assisting in the buyer’s search, holding open houses and showing homes,  preparing offers and assisting in negotiations, and coordinating the steps  to close the transaction. Because real estate transactions are complex and  infrequent for most people, many consumers benefit from a broker’s  specialized knowledge of the process and of local market conditions. Still,  some consumers choose to complete real estate transactions without a  broker’s assistance, including those who sell their properties on their own,  or “for-sale-by-owner.”
For many years, the industry has used a commission-based pricing model,  with sellers paying a percentage of the sales price as a brokerage fee.  Brokers acting for sellers typically invite other brokers to cooperate in the  sale of the property and offer a portion of the total commission to whoever  produces the buyer. Agents involved in the transaction may be required to  split their shares of the commission with their brokers. Under this  approach, brokers and agents receive compensation only when sales are  completed.
In recent years, alternatives to this traditional full-service brokerage model  have become more common, although industry analysts and participants  told us that these alternatives still represented a small share of the overall  market in 2005. Discount full-service brokerages charge a lower  commission than the prevailing local rate, but offer a full package of  services. Discount limited-service brokerages offer a limited package of  services or allow clients to choose from a menu of “unbundled” services  and charge reduced fees on a commission or fee-for-service basis.
Most local real estate markets have an MLS that pools information about  homes that area brokers have agreed to sell. Participating brokers use an  MLS to “list” the homes they have for sale, providing other brokers with  detailed information on the properties (“listings”), including how much of  the commission will be shared with the buyer’s agent. An MLS serves as a  single, convenient source of information that provides maximum exposure  for sellers and facilitates the home search for buyers. Each MLS is a  private entity with its own membership requirements and operating  policies and procedures. According to NAR, approximately 900 MLSs  nationwide were affiliated with the trade association in 2005. These NAR- affiliated MLSs are expected to follow NAR’s model guidelines for various  operational and governance issues, such as membership requirements and  rules for members’ access to and use of listing information. An MLS that is  not affiliated with NAR is not bound by these guidelines.
Individual states regulate real estate brokerage, establishing licensing and  other requirements for brokers and agents. Of the two categories of state- licensed real estate practitioners, brokers generally manage their own  offices, and agents, or salespeople, must work for licensed brokers. States  generally require brokers to meet more educational requirements than  agents, have more experience, or both. For the purposes of this statement,  I will generally refer to all licensed real estate practitioners as brokers.
section_title: Various Factors Can Influence the Extent of Price Competition in Real Estate Brokerage
paragraphs: Some economists have observed that brokers typically compete more on  nonprice factors, such as service quality, than on price. While  comprehensive price data are lacking, evidence from academic literature  and industry participants with whom we spoke highlight several factors  that could limit the degree of price competition, including broker  cooperation, largely through MLSs, which can discourage brokers from  competing with one another on price; resistance from traditional full- service brokers to brokers who offer discounted prices or limited services;  and state antirebate and minimum service laws and regulations, which  some argue may limit pricing and service options for consumers.
subsections: section_title: Real Estate Brokerage Is Characterized More by Nonprice Competition Than Price Competition
paragraphs: The real estate brokerage industry has a number of attributes that  economists normally associate with active price competition. Most  notably, the industry has a large number of brokerage firms and individual  licensed brokers and agents—approximately 98,000 active firms and 1.9  million active brokers and agents in 2004, according to the Association of  Real Estate License Law Officials. Although some local markets are  dominated by 1 or a few large firms, market share in most localities is  divided among many small firms, according to industry analysts. In  addition, the industry has no significant barriers to entry, since obtaining a  license to engage in real estate brokerage is relatively easy and the capital  requirements are relatively small.
While real estate brokerage has competitive attributes, with a large  number of players competing for a limited number of home listings, much  of the academic literature and some industry participants we interviewed  described this competition as being based more on nonprice variables,  such as quality, reputation, or level of service, than on price. One reason  for this characterization is the apparent uniformity of commission rates.  Comprehensive data on brokerage fees are lacking. However, past  analyses and anecdotal information from industry analysts and  participants indicate that, historically, commission rates were relatively  uniform across markets and over time. Various studies using data from the  late 1970s through the mid-1980s found evidence that the majority of  listings in many communities clustered around the same rate, exactly 6  percent or 7 percent. Although these studies and observations do not  indicate that there has been complete uniformity in commission rates, they  do suggest that variability has been limited. Many of the industry analysts  and participants we interviewed said that commissions still cluster around  a common rate within most markets, and they generally cited rates of 5  percent to 6 percent as typical.
Some economists have cited certain advantages to the commission-based  model that is common in real estate brokerage, most notably that it  provides sellers’ brokers with an incentive to get the seller the highest  possible price. Moreover, uniformity in commission rates within a market  at a given time does not necessarily indicate a lack of price competition.  But some economists have noted that in a competitive marketplace, real  estate commission rates could reasonably be expected to vary across  markets or over time—that is, to be more sensitive to housing market  conditions than has been traditionally observed. For example, commission  rates within a market at a given time do not appear to vary significantly on  the basis of the price of the home. Thus, the brokerage fee, in dollar terms,  for selling a $300,000 home is typically about three times the fee for selling  a $100,000 home, although the time or effort required to sell the two  homes may not differ substantially. Similarly, commission rates do not  appear to have changed as much as might be expected in response to  rapidly rising home prices in recent years. Between 1998 and 2005, the  national median sales price of existing homes, as reported by NAR,  increased about 74 percent, while inflation over the same period was  about 16 percent, leaving an increase of some 58 percent in the inflation- adjusted price of housing. According to REAL Trends, average commission  rates among the largest brokerage firms fell from an estimated 5.5 percent  in 1998 to an estimated 5.0 percent in 2005, a decrease of about 9 percent.  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.
Some economists have suggested that uniformity in commission rates can  lead brokers to compete on factors other than price in order to gain  market share. For example, brokers might hire more agents in an effort to  win more sellers’ listings. Brokers may also compete by spending more on  advertising or offering higher levels of service to attract clients. Although  some of these activities can benefit consumers, some economic literature  suggested that such actions lead to inefficiency because brokerage  services could be provided by fewer agents or at a lower cost.
To the extent that commission rates may have declined slightly in recent  years, the change may be the result in part of rapidly rising home prices,  which have generated higher brokerage industry revenues even with lower  commission rates. However, competition from increasing numbers of  discount, fee-for-service, and other nontraditional brokerage models may  have also contributed to the decline. These nontraditional models typically  offer lower fees, and although NAR consultants estimated that  nontraditional firms represented only about 2 percent of the market in  2003, these firms may be putting some downward pressure on the fees  charged by traditional brokerages.
section_title: Cooperation Facilitated by MLSs and Other Factors May Inhibit Price Competition
paragraphs: Factors related to the cooperation among brokers facilitated by MLSs,  some brokers’ resistance to discounters, and consumer attitudes may  inhibit price competition within the real estate brokerage industry.
First, while MLSs provide important benefits to consumers by aggregating  data on homes for sale and facilitating brokers’ efforts to bring buyers and  sellers together, the cooperative nature of the MLS system can also in  effect discourage brokers from competing with one another on price.  Because participating in an MLS in the areas where they exist is widely  considered essential to doing business, brokerage firms may have an  incentive to adopt practices that comply with MLS policies and customs.  As previously noted, MLSs facilitate cooperation in part by enabling  brokers to share information on the portion of the commission that sellers’  brokers are offering to buyers’ brokers. In the past, some MLSs required  participating brokers to charge standard commission rates, but this  practice ended after the Supreme Court ruled, in 1950, that an agreement  to fix minimum prices was illegal under federal antitrust laws.  Subsequently, some MLSs adopted suggested fee schedules, but this too  ended after DOJ brought a series of antitrust actions in the 1970s alleging  that this practice constituted price fixing. Today, MLSs no longer establish  standard commission rates or recommend how commissions should be  divided among brokers. MLS listings do show how much sellers’ brokers  will pay other brokers for cooperating in a sale, according to industry  participants. When choosing among comparable homes for sale, brokers  have a greater incentive—all else being equal—to first show prospective  buyers homes that offer other brokers the prevailing commission rate,  rather than homes that offer a lower rate. Therefore, even without formal  policies to maintain uniform rates, individual brokers’ reliance on the  cooperation of other brokers to bring buyers to listed properties may help  maintain a standard commission rate within a local area, at least for  buyers’ brokers. FTC, in a 1983 report, concluded that the cooperative  nature of the industry and the interdependence among brokers were the  most important factors explaining the general uniformity in commission  rates that it had observed in many markets in the late 1970s.
Second, traditional brokers may discourage price competition by resisting  cooperation with brokers and firms whose business models depart from  charging conventional commission rates, according to several industry  analysts and participants with whom we spoke. A discount broker may  advertise a lower commission rate to attract listings, but the broker’s  success in selling those homes, and in attracting additional listings in the  future, depends in part on other brokers’ willingness to cooperate (by  showing the homes to prospective buyers) in the sale of those listings.  Some discount full-service and discount limited-service brokerage firms  we interviewed said that other brokers had refused to show homes listed  by discounters. In addition, traditional brokers may in effect discourage  discount brokers from cooperating in the sale of their listings by offering  discounters a lower buyer’s broker commission than the prevailing rate  offered to other brokers. This practice can make it more difficult for  discount brokers to recruit new agents because the agents may earn more  working for a broker who receives the prevailing commission from other  brokers. Some traditional full-service brokers have argued that discount  brokers often do less of the work required to complete the transaction  and, thus, deserve a smaller portion of the seller’s commission.  Representatives of discount brokerages told us they believed that reduced  commission offers are in effect “punishment” for offering discounts to  sellers and are intended as signals to other brokers to conform to the  typical pricing in their markets.
Finally, pressure from consumers for lower brokerage fees appears to  have been limited, although it may be increasing, according to our review  of economics literature and to several industry analysts and participants.  Some consumers may accept a prevailing commission rate as an expected  cost, in part because that has been the accepted pricing model for so long,  and others may not realize that rates can be negotiated. Buyers may have  little concern about commission rates because sellers directly pay the  commissions. Sellers may be reluctant to reduce the portion of the  commission offered to buyers’ brokers because doing so can reduce the  likelihood that their homes will be shown. In addition, home sellers who  have earned large profits as housing prices have climbed in recent years  may have been less sensitive to the price of brokerage fees. However,  some brokers and industry analysts noted that the growth of firms offering  lower commissions or flat fees has made an increasing number of  consumers aware that there are alternatives to traditional pricing  structures and that commission rates are negotiable.
section_title: Some State Laws and Regulations Can Affect Price Competition
paragraphs: Although state laws and regulations related to real estate licensing can  protect consumers, DOJ and FTC have expressed concerns that laws and  regulations that restrict rebates to consumers or require minimum levels  of service by brokers may also unnecessarily hinder competition among  brokers and limit consumer choice.
As of July 2006, at least 12 states appeared to prohibit, by law or  regulation, real estate brokers from giving consumers rebates on  commissions or appeared to place restrictions on this practice.  Proponents said such laws and regulations help ensure that consumers  choose brokers on the basis of the quality of service as well as price,  rather than just on the rebate being offered. Opponents of antirebate  provisions argued that such restrictions serve only to limit choices for  consumers and to discourage price competition by preventing brokers  from offering discounts. Opponents also noted that offering a rebate is one  of the few ways to reduce the effective price of buyer brokerage services,  since commissions are typically paid wholly by the seller. In November  2005, DOJ and the Kentucky Real Estate Commission settled a suit in  which DOJ had alleged that the commission’s administrative regulation  banning rebates violated federal antitrust law. In its complaint, DOJ  argued that the regulation unreasonably restrained competition to the  detriment of consumers, making it more difficult for them to obtain lower  prices for brokerage services. Pursuant to the approved settlement  agreement, the commission put in place emergency regulations permitting  rebates and other inducements as long as they are disclosed in writing.
In addition, as of July 2006, 12 states appeared to be considering or to have  passed legislation that requires brokers to provide a minimum level of  service when they represent consumers. Such provisions generally  require that when a broker agrees to act as a consumer’s exclusive  representative in a real estate transaction, the broker must provide such  services as assistance in delivering and assessing offers and counteroffers,  negotiating contracts, and answering questions related to the purchase  and sale process. Advocates of minimum service standards argued that  they protect consumers by ensuring that brokers provide a basic level of  assistance. Furthermore, full-service brokers argued that such standards  prevent them from having to unfairly shoulder additional work when the  other party uses a limited-service broker. Opponents of these standards  argued that they restrict consumer choice and raise costs by impeding  brokerage models that offer limited services for a lower price. Between  April and November 2005, DOJ wrote to state officials in Oklahoma and  New Mexico, and DOJ and FTC jointly wrote to officials in Alabama,  Michigan, Missouri, and Texas discouraging adoption of these states’  proposed minimum service laws and regulations. The letters argued that  the proposed standards in these states would likely harm consumers by  preventing brokers from offering certain limited-service options and  therefore requiring some sellers to buy brokerage services they would  otherwise choose to perform themselves. They also cited a lack of  evidence that consumers have been harmed by limited-service brokerage.  Despite the concerns raised by DOJ and FTC, the governors in Alabama,  Missouri, Oklahoma, and Texas subsequently signed minimum service  standards into law.
section_title: The Internet Has Increased Consumers’ Options, but Several Factors Could Limit Its Wider Use
paragraphs: The Internet has increased consumers’ access to information about  properties for sale and has facilitated new approaches to real estate  transactions. Whether the Internet will be more widely used in real estate  brokerage depends in part on the extent to which listing information is  widely available. Like discount brokerages, Internet-oriented brokerage  firms, especially those offering discounts, may also face resistance from  traditional brokers and especially may be affected by state laws that  prohibit them from offering rebates to consumers.
subsections: section_title: The Internet Allows Consumers More Direct Access to Information and Facilitates Alternative Service and Pricing Options
paragraphs: The Internet allows consumers direct access to listing information that has  traditionally been available only from brokers. Before the Internet was  widely used to advertise and display property listings, MLS data (which  comprise a vast majority of all listings) were compiled in an “MLS book”  that contained information on the properties listed for sale with MLS- member brokers in a given area. In order to view the listings, buyers  generally had to use a broker, who provided copies of listings that met the  buyer’s requirements via hard copy or fax. Today, information on  properties for sale—either listed on an MLS or independently, such as for- sale-by-owner properties—is routinely posted on Web sites, often with  multiple photographs or virtual tours. Thus, the Internet has allowed  buyers to perform much of the search and evaluation process  independently, before contacting a broker. Sellers of properties can also  benefit from the Internet because it can give their listings more exposure  to buyers. Sellers may also use the Internet to research suitable asking  prices for their homes by comparing the attributes of their houses with  others listed in their areas.
Although Internet-oriented brokerages and related firms represented only  a small portion of the real estate brokerage market in 2005, the Internet  has made different service and pricing options more widely available to  consumers. Among these options are full-service and limited-service  discount brokerages, information and referral companies, and alternative  listing Web sites.
Full-service discount brokerages offer buyers and sellers full-service real  estate brokerage services but advertise lower than traditional  commissions, for example between 3 percent and 4.5 percent. These types  of brokerages existed before widespread use of the Internet, but many  have gained exposure and become more viable as a result of the Internet.  In addition, by posting listings online, displaying photographs and virtual  tours of homes for sale, and communicating with buyers and sellers by e- mail, some of these companies say that they have been able to cut  brokerage costs.
Limited-service discount brokerages provide fewer services than full- service brokerages but also charge lower commissions or offer their  services for flat fees. For example, some firms charge a flat fee for  marketing and advertising homes and, for additional fees, will list a  property in the MLS and show the home to prospective buyers. The  Internet has allowed these firms to grow in number and size in recent  years, in part because they can market their services to a larger population  of buyers and sellers.
Information and referral companies provide resources for buyers and  sellers—such as home valuation tools and access to property listings—and  make referrals of those consumers to local brokers. Some of these  companies charge referral fees to brokers and then rebate a portion of that  fee back to buyers and sellers. The Internet allows these companies to  efficiently reach potential consumers and offer those customers services  and access to brokers.
Alternative listing Web sites offer alternatives to the MLS, allowing sellers  who want to sell their homes themselves to advertise their properties to  buyers and giving buyers another source of information on homes for sale.  These alternative listing sites include the Web sites of local newspapers,  Craigslist, and “for-sale-by-owner” Web sites.
section_title: Wider Use of the Internet in Real Estate Brokerage Will Depend on the Availability of Listing Information and Other Factors
paragraphs: Several factors could limit the extent to which the Internet is used in real  estate transactions. A key factor is the extent to which information about  properties listed in an MLS is widely available. Currently, buyers may view  MLS-listed properties on many Web sites, including broker and MLS Web  sites and on NAR’s Realtor.com Web site. The real estate brokerage  industry has faced controversy over the public availability of listings on  the Internet and over whether brokers can restrict the display of their  listings on other brokers’ Web sites. Proponents of allowing such  restrictions argued that listings are the work product, and thus the  property, of the selling broker, who should have control over how the  listings are used. Opponents argued that such control would unfairly limit  Internet-oriented brokers’ ability to provide their clients with access to  MLS listings through their Web sites.
Even with few restrictions on the availability of information about  properties for sale, Internet-oriented brokerage firms may face other  challenges. First, Internet-oriented brokers with whom we spoke  described resistance, similar to that previously described, involving some  traditional brokerages that refused to show the Internet-oriented  brokerages’ listed properties or offered them buyers’ brokers commissions  that were less than those offered to other brokers. However, the online  availability of listing information may discourage such behavior by  enabling buyers to more easily detect whether a broker is avoiding other  brokers’ listings that are of interest. Second, some Internet-oriented  companies said that state antirebate laws and regulations could affect  them disproportionately, since their business models often were built  around such rebates. Finally, other factors, such as the lack of a uniform  technology to facilitate related processes—such as inspection, appraisal,  financing, title search, and settlement—may inhibit the use of the Internet  for accomplishing the full range of activities needed for real estate  transactions.
Mr. Chairman, this concludes my prepared statement. I would be happy to  answer any questions at this time.
section_title: Contacts and Acknowledgments
paragraphs: For further information on this testimony, please contact David G. Wood  at (202) 512-8678. Contact points for our Offices of Congressional  Relations and Public Affairs may be found on the last page of this  statement. Individuals making key contributions to this testimony include  Jason Bromberg, Tania Calhoun, Julianne Stephens Dieterich, and Cory  Roman.
section_title: Bibliography
paragraphs: This bibliography includes articles from our review of literature on the  structure and competitiveness of the residential real estate brokerage  industry.
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