Should Real Estate Agents Say Goodbye to Lofty Commissions?

The National Association of Realtors estimates that nearly 80% of all residential real estate transactions involve a realtor. During the mid-2000s, realtors brought in over $100 billion annually in brokerage fees. In a study covering the greater Boston Area between 1998 and 2007, brokers were paid over $4.1 billion.

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In Boston, the average home cost $472,000 in 2007. With the average realtor commission of 5-6% of the transaction, the average realtor would be bringing in roughly 40% of the median household income in one sale. The study finds this to be more or less the case around the country, with commission rates showing little variation across different regions, time periods, or price rangers.

While the U.S. requires real estate (NYSE:IYR) brokers to be licensed, the barriers to entering and exiting the industry are fairly low. The number of brokers working in the U.S. fluctuates with housing prices. Between 1997 and 2006, housing prices climbed 83%, and during that time, NAR membership nearly doubled. When prices subsequently began to fall, and the number of housing transactions plunged, realtors began exiting the market, and between 2006 and 2009, the NAR lost 20% of its membership.

The study concludes that an increase in the number of agents, even though it usually corresponds to times of greater prosperity, doesn’t improve the likelihood of a sale, nor does it reduce the average amount of time it takes to sell a property. In fact, listings by inexperienced agents are 9% less likely to sell than those of agents with six or more years of experience. However, when the number of entry-level agents increases, it decreases the market share for experienced agents even though entry-level agents charge the same commission rates.

The study also finds that the average entry-level agent is highly inefficient. Had entrants not worked as agents, they would have earned 80% of what their observed revenue was as agents. While for many, that still means a significant increase in income, it’s not enough of an increase to offset the negative effects on the market. The real estate market continues to take in the same average annual revenue, but it is greatly diluted, with the wealth spread out across many more agents. Furthermore, both buyers and sellers are hurt by these inexperienced agents.

To counter the trend, the study finds that reducing the average commission rate by one-half decreases entry by one-third, increases the number of houses sold per agent by 73%, and increases the likelihood of a sale by 2%. Ultimately, this small adjustment saves customers $2 billion annually and saves $900 million in opportunity cost and entry costs from fewer real estate agents. When it comes to real estate agents, less really is more, improving the housing market, allowing for higher salaries, and saving sellers money.