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Realtor commission

Realtor Commission: How It Works When You’re Buying a Home

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Technology has made the real estate market move faster, much faster.

Data from the once-firewalled MLS (the acronym for multiple listing service) is more readily available to consumers than it once was, and today services like Trulia, Redfin, and Zillow make it very easy for buyers to browse them.

However, a few things have not changed as much over the last few decades. Nearly nine out of 10 home buyers and sellers still work with a real estate agent when they purchase or sell a home, according to the National Association of Realtors. Another thing that has not changed? The way that real estate agents (some of whom are called Realtors) get paid by their clients: through a commission.

The typical fee paid to real estate agents in a home transaction is 6% or 7% of the selling home’s price. The fee is calculated based on what the seller fetches and is generally split between the buyer’s agent and the seller’s. This would mean if a home sells for $400,000, a 6% fee of $24,000 would be divided between two agents.

Of course, agent fees are in theory negotiable. But many agents are firm about what fees they expect or wouldn’t entertain a fee reduction unless they were handling two deals at once for you (helping you sell a home so you can buy another, for instance) or had done a lot of business with your social network.

These fees may sound steep, but when it comes to home shopping agents perform a lot of duties. They’ll research the market for you and show you multiple homes over a many-week (or many-season) period before writing and negotiating an offer for you. And when it comes to home selling, agents must use both quantitative and qualitative skills to help you price your home and prepare it for sale.

Additionally, many agents now carry specialist credentials designed to cater to particular populations (seniors, first-time buyers, etc.,) or particular architecture or building types (foreclosures, investment property, multi-family homes, new construction, “green” construction, second homes, mixed-used buildings).

The Value of an Agent

Agents add value in many ways. If you’re a new buyer, you may need extra hand-holding as you confront what homes are available in your price range or if you’re seeking referrals to professionals such as mortgage brokers, inspectors, or contractors. And in many metro areas where bidding wars and spiking prices are common—say the San Francisco Bay Area—offer negotiation may be one of the most important skills an agent can offer clients—a good agent can protect you from the buyer’s remorse that over-paying causes or from getting shut out by the competition.

If you’re buying and seeking an agent’s help, it may help to interview agents. Ask them if they’ve worked with buyers like you, if they’ve handled transactions in your price range or target neighborhoods, and notice if they seem eager to push you into a transaction quickly or at the top of your price range.

If you’re selling, it helps to ask similar questions: How would the agent price your home and why, what’s their marketing plan (open houses versus targeted ads), do they provide additional services (window-cleaning, staging, referrals to a landscaper) as part of their fee, and do they have references?

Some sellers do what’s known as a “For Sale by Owner” listing—leveraging their own ability to research home pricing and area transactions and side-stepping working with an agent. For some sellers, this may make a lot of sense. Perhaps a friend is purchasing the property and you don’t plan to list it on the open market. Perhaps you’re selling a condo in a building with many recent transactions among units with your exact footprint. However, some buyer’s agents deliberately steer clients away from these transactions because some FSBO sellers don’t like to pay their commissions and because such sellers may be less professional about deal paperwork or negotiating on price.

The Redfin Model

All that said, some newer-fangled brokerages charge lower fees. Rather than force agents to make their living via commission, they pay agents a salary and ask them to focus most heavily on negotiating transactions on the assumption that many buyers and sellers don’t need the “fluffy” work of listings screening. These agents are rewarded based upon the reputational support that comes from customer satisfaction, rather than in the form of commissions only.

At Redfin, for instance, buyers who work with a Redfin agent when shopping get a refund for seller-paid commission fees because Redfin buyer’s agents take no more than a 1.5% fee. Consider a $500,000 home sale. If the seller pays the industry-standard commission of 6% or $30,000, with half (3%) going to the buyer’s agent and half (3%) going to seller’s agent, then the Redfin agent would be due $15,000. However, if that agent only takes 1.5% ($7,500) and rebates the other 1.5% to their buying client ($7,500), that can be an attractive proposition to many home shoppers, who can move into a new place with funding for décor, repairs, or emergencies.

Those listing with Redfin typically pay only a 1.5%—which in some California test markets has just been lowered to 1%. Some argue that the fee-based model for real estate transactions motivates agents to get their clients to buy more than they can afford (the more you pay to buy, the more the agents make in commissions) and to take a greedy approach to sales and bidding wars, which can in some cases bring unwanted influences to neighborhoods (investor speculators, over-leveraged flippers, teardowns of heritage properties).

Agents, of course, come in all shapes, sizes, and flavors. Before you hire one, it’s important to understand the business model they work under and how they’re paid—so you can understand what to expect of them.

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Disclaimer: This blog post provides personal finance educational information, and it is not intended to provide legal, financial, or tax advice.