C.A.R. MLS/Computer and Business Technology Committee
Short Sale Compensation

This Issues Briefing Paper is for Study only and has not been approved by the MLS/Computer and Business Technology Committee, Executive Committee, or the Board of Directors.

BACKGROUND: 

C.A.R. has been receiving complaints about agents with short sale listings resorting to a variety of ways to make their offers of compensation to cooperating agents appear more generous on the MLS than they actually intend to honor.  In these instances, agents are using the MLS short sale commission rule to provide cover for practices that were not intended when the rule was adopted. 

C.A.R.’s short sale commission rule (section 7.15.2) is one of the only existing exceptions to the MLS rule requiring the making of a unilateral contractual offer of compensation (Rule 7.12 Unilateral Contractual Offer).  Rule 7.15.2 allows the listing broker in a short sale to reduce the commission offered in the MLS to the cooperating broker if the lender reduces the overall gross commission it pays to the listing broker.  The distinct nature of short sale listings enable a third-party lender to intervene in the terms of sale and potentially ask a listing broker to reduce the gross commission offered on the property. The short sale commission rule thus enables the listing broker to “hedge” his commission offer so that he does not unexpectedly end up owing more to the cooperating broker than he intended in the event of a lender reduction.  In order to receive the protection of this rule, a listing broker is required to publish (a) the fact that the sale and gross commission of the listing is subject to lender approval and (b) the amount or method by which the compensation offered through the MLS will be reduced if the lender reduces the gross commission.

C.A.R.’s short sale commission rule pre-dates the current economic downturn.  It was adopted to protect listing agents during the previous real estate short sale cycle in the 1990’s when commission arrangements approved by lenders in the short sale environment were unpredictable and left listing agents over-exposed on their commission offers in the MLS.  It was thus already in place to govern short sale commissions when the current short sale cycle hit.

It is important to note that under NAR policy, an MLS short sale commission rule allowing a listing agent to reduce commission offered through the MLS if a lender reduces the gross commission in the listing contract is an allowable – but not mandatory - provision an MLS can adopt.

In light of what some believe are increasing instances of abuses of the short sale commission rule (to be more fully explained in the below section of this paper), the MLS Committee will want to consider several factors and may even wish to re-evaluate whether it wants to continue to support this discretionary rule with continued inclusion in the C.A.R. Model MLS Rules.

DISCUSSION: 

As set forth above, the MLS short sale compensation rule was initially put in place in the last market down turn at a time when lenders were being rather unpredictable.  Now, REALTORS® seem to report that commission ranges lenders will approve are fairly predictable.  However, many have been troubled by manipulation of the short sale commission rule in ways that were not intended.  Some listing agents have used it to spike up their commission in the listing agreement to a rate that is beyond the range market forces would typically bear so as to trigger the short sale compensation rule when they know (1) the seller will not be paying the commission as it is a short sale and (2) the lender will reduce it to a market rate.  In these instances, a cooperating agent may be unpleasantly surprised to get a lesser commission than reasonably anticipated from the MLS listing.

To illustrate this scenario, using purely hypothetical numbers in a real estate fantasy land, here’s how it plays out: let’s say that market forces bear a gross commission of around 10% in the listing agreement, and short sale listing agent has offered a 5% commission to cooperating agents on the MLS with a 50/50 split of any lender reduction of the gross commission.  However, short sale listing agent has written up his short sale listing for an unlikely 14%. Unsurprisingly, lender then reduces commission to 10%. Now listing broker splits the 4% reduction and reduces cooperating broker’s commission to 3%. 

Rather than candidly offering a lesser commission amount up front (which listing brokers are perfectly free to do; they can choose an even split or some other apportionment), these listing brokers employ the short sale commission rule to create the appearance of a higher commission offer than they are realistically planning to provide.   A cooperating agent may see what looks to be a satisfactory commission offer in the MLS with the representation that the listing broker will offer a 50/50 split of any lender reduction of the gross commission, yet at the end of the transaction, discover that the gross commission, and therefore the lender reduction of it, was unexpectedly high, providing cooperating agent with much lower compensation than the impression listing agent initially created in the MLS.

What can (and cannot) be done to address this dynamic?

1.  NAR Policy and Antitrust Law

First of all, it is of utmost importance to understand that NAR policy and the antitrust law on which it is based clearly prohibits the MLS from fixing or regulating commissions in any way.  See CAR Model MLS Rule 7.21:

7.21  No Control of Commission Rates or Fees Charged by Participants.  The MLS shall not fix, control, recommend, suggest, or maintain commission rates or fees for services to be rendered by Participants.  Further, the MLS shall not fix, control, recommend, suggest, or maintain the division of commissions or fees between cooperating Participants or between Participants and non-Participants.

Moreover, the MLS shall not disclose in any way the total commission negotiated between seller and the listing broker.  Pertinent NAR policy on Commissions is set forth below:

Division of Commissions
Section 5 Compensation Specified on Each Listing:

The listing broker retains the right to determine the amount of compensation offered to other participants (acting as subagents, buyer agents, or in other agency or nonagency capacities defined by law) which may be the same or different. (Amended 11/96)

Note 1: The association multiple listing service shall not have a rule requiring the listing broker to disclose the amount of total negotiated commission in his listing contract, and the association multiple listing service shall not publish the total negotiated commission on a listing which has been submitted to the MLS by a participant. The association multiple listing service shall not disclose in any way the total commission negotiated between the seller and the listing broker.

Sharing prices between horizontal competitors by a trade association poses serious, even criminal, antitrust risk.  No potential solution to the problem at hand can involve, in any way, MLS disclosure of the total commission negotiated in the listing agreement. This would include a requirement that the split percentage of the total commission be disclosed.

2.   Buyer Broker Agreements

Cooperating agents can better protect their end of the commissions by greater use of Buyer Broker Agreements.

3.  Violation of MLS Rules/COE

Cooperating agents who believe they can make a case that listing agent made misleading representations and failed to present true picture can instigate a rules violation hearing.  It may be hard to prove; they will need to develop evidence, perhaps show a pattern of reduced inflated rates such that listing agent “should have known” this tactic would be misleading to cooperating agents, or have a seller testify that the contracted rate was disingenuously inflated, or locate a smoking gun email or admission of listing agent that he knew his amount was inflated so he could recover more on the backend.   This is not an easy burden, but an avenue of possible relief for a determined cooperating agent.

4.  Removal of the Short Sale Compensation Provision

As already stated, an MLS is not required to adopt the portion of the short sale rule which allows a listing agent to reduce commission offered to other participants in the event a lender reduces the gross commission established in the listing contract in the course of approving the sale.  Several MLSs have expressed an interest in having the Committee consider eliminating this ability.  To this end, the Committee will need to determine whether maintaining the short sale compensation rule is still more helpful – or more hurtful – to members. 

Should the short sale compensation rule be removed, listing brokers will have to stand behind what they offer on the MLS, and if the bank reduces the gross commission, they have to absorb it or renegoatiate with the cooperating broker (as in any traditional seller-request of a reduction, there are some ways to do it but the cooperating broker can always say no).  Removal of the rule would require listing brokers to better project the likely commission that will be received and go ahead and make a judgment on the amount to offer the cooperating side.

On the other hand, while removal of the rule would help curtail manipulation of the system, it could also leave listing agents holding the bag in some settings.  If a lender ends up reducing the gross commission more than listing broker expected, she could be on the hook to compensate cooperating broker for a greater share than she intended.  The result could be one that listing broker considers unfair.

Should the Committee be inclined to remove the short sale compensation portion of the C.A.R. Model MLS short sale rule, it will need to replace it with either a discretionary or mandatory short sale disclosure obligation. Thus, the Committee should proceed as follows: 

1) Does the Committee want to eliminate the ability in short sales to reduce commission when a lender reduces the gross commission in the course of approving the sale?

2) If the answer to that question is no, then the discussion is over. 

3) If the answer to that question is yes, then the Committee next needs to decide whether the replacement short sale rule should allow for a voluntary disclosure of short sale status or require mandatory short sale disclosure.

PROPOSED MLS RULE REVISION: 

Should the Committee decide to remove the short sale compensation portion of the C.A.R. Model MLS short sale rule, it should select one of two replacement options.  The first option gives listing agents the discretion to disclose short sale status.  The second option compels the listing agent to disclose short sale status.  See the replacement options below:

Option #1: For a rule that leaves disclosure of potential short sales to the discretion of participants:

7.15.2   Lender Approval 7.28 Short Sale Listings.   Compensation offered through the MLS to cooperating brokers on listings which require lender approval (commonly referred to as “short sale” listings) is for the amount published therein unless the listing broker indicates on the MLS the following: (a) the fact that the sale and gross commission are subject to lender approval; and (b) the amount or method by which the compensation offered through the MLS will be reduced if the lender reduces the gross commission.  Participants may, but are not required to, disclose potential short sales (defined as a transaction where title transfers, where the sale price is insufficient to pay the total of all liens and costs of sale and where the seller does not bring sufficient liquid assets to the closing to cure all deficiencies) to other participants and subscribers.  This section does not allow an additional reduction from the commission offered for items such as a short sale negotiator fee or other administrative costs of the transaction.  Any reductions from the commission offered for such items should be factored in as a reduced amount the listing broker initially offers to a cooperating broker and may not be made a condition of the offer.

Option #2: For a rule that mandates that participants disclose potential short sales:

7.15.2   Lender Approval 7.28 Short Sale Listings.   Compensation offered through the MLS to cooperating brokers on listings which require lender approval (commonly referred to as “short sale” listings) is for the amount published therein unless the listing broker indicates on the MLS the following: (a) the fact that the sale and gross commission are subject to lender approval; and (b) the amount or method by which the compensation offered through the MLS will be reduced if the lender reduces the gross commission.  Participants must disclose potential short sales (defined as a transaction where title transfers, where the sale price is insufficient to pay the total of all liens and costs of sale and where the seller does not bring sufficient liquid assets to the closing to cure all deficiencies) when reasonably known to the listing participants.  This section does not allow an additional reduction from the commission offered for items such as a short sale negotiator fee or other administrative costs of the transaction.  Any reductions from the commission offered for such items should be factored in as a reduced amount the listing broker initially offers to a cooperating broker and may not be made a condition of the offer.

[Should the Committee select the mandatory disclosure obligation in Option #2, placement into Tier One (the least severe level of violations) of the Model Citation Policy is recommended for this rule as that is where other failure to complete or update listing information offenses are located]. 

PROPOSED MOTION:

1) That, upon final approval by NAR, C.A.R. Model MLS Rules be revised to (a) remove the short sale compensation exemption to the unilateral compensation rule and (b) allow disclosure of short sale status to be at the discretion of participants (Option #1 set forth above).

OR

2) That, upon final approval by NAR, C.A.R. Model MLS Rules be revised to (a) remove the short sale compensation exemption to the unilateral compensation rule, (b) mandate that short sale status be disclosed by participants and (c) and placed into Tier One of the C.A.R. Model Citation Policy (Option #2 set forth above).