Reporting Broker Audit Safe HarborLegislative CommitteeThis material is for background and discussion purposes only and has not been approved by the Legislative or Executive Committees or the Board of DirectorsIssue: Should C.A.R. sponsor legislation to limit the DRE’s ability to audit a broker that reports misconduct of an employed salesperson?Action: OptionalOptions: 1. Do Nothing. Rely on the shield of B&P 10179*. 2. Sponsor Legislation to create a “safe harbor” within B&P 10178 against audits triggered by required reports. 3. OtherStatus/Summary: Employing brokers are required by Section 10178 to report to the DRE whenever a salesperson is fired for conduct that would also be a violation of the disciplinary rules of the real estate law. Section 10179 protects the broker against any act of a salesperson unless the broker has “guilty knowledge” of the salesperson’s bad acts. The guilty knowledge must be proven in a disciplinary hearing and cannot be summarily decided. This Issues Briefing Paper looks at whether existing protections for responsible brokers are sufficient, and if not, what should be done.Discussion: Theuncertain real estate market and substantial numbers of new licensees has lead to an increase in non-standard practices, salesperson turnover and even real estate fraud. Unfortunately, some of the turnover is for cause. One example cited is a loan application fraud scheme in which an over-value offer is made, contingent upon the excess price (which is financed and thus funded by the lender) coming back to the buyer, buyer’s agent or a third party out of escrow. The end result is money skimmedout of the transaction and a defaulted loan in the hands of the lender.Existing Rules Section 10178 requires a broker to report to the DRE whenever he or she terminates a salesperson for any act that would be a violation of the real estate law’s disciplinary rules. Section 10179 shields an employing broker (whether or not the broker is the one reporting the misconduct) from disciplinary liability for the bad acts of the salesperson unless the employer had guilty knowledge of the acts. The combination of the two rules seems to invite employing brokers to fire and report bad salespersons, and do so without fear of regulatory consequences.On the other hand, the extensive list of disciplinary offenses in B&P Section 10177 a separateprovision for discipline based upon a failure to exercise “reasonable supervision” over the activities of salespersons. In addition, the Real Estate Commissioner has indicated in his public forum remarks that if a salesperson is investigated the DRE auditors may look at all related documents and will not turn a blind eye to any violations that they discover.Negative Incentive Some licensees have suggested that concerns about the uncertainty, expense and inconvenience of a possibleaudit outweigh an employing broker’s natural incentive and legal obligation to obey the reporting law. The unfortunate result is that when the questionable (or even criminal) salesperson is fired, the reason is characterized as something thatdoesn’t require reporting pursuant to Section 10178. The bad salesperson is then unleashed on the rest of the Realtor®, home buying and lending communities to continue in his or her misconduct and continue victimizing the innocent.Important Strategic Considerations 1. How important is this change? Have any Realtors® really suffered discipline for reporting salesperson misconduct? Is it common for a whole office to audited when a salesperson is subjected to discipline?2. What will the proposal cost the industry in terms of negative publicity? Will the apparent attempt to avoid scrutiny by the regulator reflect badly on the industry?3. Can the reasonable goals of the proposal be accomplished through the regulator (DRE)? The commissioner has indicated that if his auditors discover wrong doing they will not ignore it. This posture increases fears that the “good guy” employer suffers the penalty of an audit for reporting a bad employee. Could the discouragement of reporting by employers be alleviated by clarification of DRE policies? If the policy is in fact not to penalize reporting employers with a full scale audit, a clarification of that policy in a DRE Bulletin article or article in C.A.R.’s California Real Estate magazine might alleviate the perception that doing the right thing results in a penalty. Should C.A.R. request clarification from DRE? Options for Removing the Disincentive Option A: Change therules so that all separations of salespersons, and the accompanying cause, must be reported to DRE, and allow or encourage DRE to spot check for problems by an audit program. This would not by itself eliminate the incentive to disguise the reason for theseparation, but would ensure that DRE gets the earliest possible notice of ALL terminations and creates an opportunity to spot check.
“Nothing encourages virtuous behavior like the sense that someone might be watching.” R. A. HeinleinOption B: Prohibit DRE from imposing discipline for failure to supervise in situations where a salesperson is discharged for cause, and the discharge is reported to DRE. Should this option contain an exception that preserves liability for employers that might be “in cahoots” with the discharged salesperson? Would this option create an opportunity for employers to ignore misconduct while they profit from the bad acts of the salesperson, and then protect themselves by firing the salesperson?
“I am shocked, shocked, to find gambling going on in this establishment…” Claude Rains in Casablanca.
Option C: Prohibit DRE from examining a real estate office’s records beyond those actually handled by salesperson under investigation, and make it clear that misconduct by a single licensee does not create a reasonable cause to investigate the employer. Should such a restriction on scope of audits be tempered by the ability to broaden the audit if the salesperson’s “paper trail” shows substantial evidence of involvement or ratification by the employer? Is there some level of gross misconduct by a salesperson that is so bad that the employer can be presumed to have been involved?
“Where there’s smoke there’s fire.” Anonymous ProverbShould C.A.R. sponsor legislation to limit the DRE’s ability to audit a broker that reports misconduct of an employed salesperson?* Note: All statutory references at to the Business and ProfessionsCode.