Where does all of that commission money go?

Where does all of that commission money go? This is the most common question that we receive from our members.  It is also the most debated part of the industry in which a lot of startups are working towards removing.  More importantly, it is one of the most misunderstood sections of real estate by consumers. 

Commissions should always be discussed before you sign a contract with an agent.  But, how can you prepare yourself to negotiate on commissions if you don’t know who is getting paid what?   

To help us get a clear answer on commissions, we decide to reach out to some agents in our hometown (hey Pittsburgh) to see who would give us a fair and transparent breakdown of where all that money really goes.   

Meet Jay Villella.  Jay has been selling real estate in Pittsburgh for six years.  He is also one of the small group of agents in the area that understands the need for more transparency in the industry.  Here is his clear and honest breakdown of where that money goes, how big companies get a cut of commissions from referrals, and why it’s ok to negotiate commissions.

Before we proceed, consumers need to know that almost all the fees in a real estate transaction are negotiable. If an agent is telling you a fee or commission is non-negotiable, they're not being truthful. They could mean that they or their company refuse to work for a specific fee or commission, but that doesn't mean another agent would likewise refuse the same fee.

Typically, a seller pays a listing broker (the company an agent is affiliated, not the individual agent) a percentage commission based on the sale price. This percentage is always negotiable, there are not set or standard rates.  Many brokerage companies also charge an additional flat fee, sometimes referred to as an "administration fee." It really doesn't matter what it's called, the fee is simply more revenue for the listing broker. The individual agent may receive some, all, or none of that additional fee. Importantly, these fees are NOT shared with buyer's brokers or referral partners.

When the listing broker is paid the percentage commission, they're almost always required to share it with several other parties including: referral partners, co-brokers, and the MLS.

Typically, the first payout is from the listing broker to the buyer's broker. They usually have to pay 50% to the buyer's broker but other arrangements are possible (60/40, etc). This arrangement must be disclosed by the listing broker. No seller should be unaware of how the commission is going to be split.

Next, referral partners get their cut. For instance, if the listing agent is referred by a relocation company, another agent, or a referral program ( learn more about referral companies), the listing broker has to pay them. A "referral fee" varies anywhere from 20% to 40% of the listing broker's proceeds. Sometimes both the buying broker and listing broker have to pay fees to a referral partner. This could be the same entity or different entities. There could be a situation where both brokers are paying so much that the referral partners are actually making more than the brokers!

Then, both brokers have to pay fees to the MLS or "multiple listing service." These are typically flat fees not based on the sale price of the property.

Next, the listing broker pays the listing agent. Agents typically receive a percentage of whatever is left, usually somewhere between 50 and 100 percent minus fees the listing broker charges the listing agent.

After paying the listing agent, the listing broker then has to pay taxes and of course the other expenses associated with running a real estate company like office space, advertising, and licensing fees for branding.

Let's work with an example:

$300,000 sale with a 6% commission and $400 flat fee, referred to the seller by a corporate relocation program
  • Total payment to the listing agent: $18,000 (+$400 to be included at the end)
  • after sharing 50% with buyer's broker: $9000
  • after sharing 30% with referral partner: $6300
  • after 5% licensing fee to National Brand: $5985
  • after $185 fee to MLS: $5800
  • after 50% split with agent: $2900 (plus the $400 "administration fee at this stage, so $3300)
  • after 25% corporate income taxes: $2475

The listing broker's net revenue is $2475 from this transaction. That's the amount they have to work with before paying rent for their office space, employee salaries, advertising, insurance, legal fees, etc. Every brokerage is different but suffice it to say, that $2475 is certainly not pure profit for the listing broker.

The listing agent's gross revenue from this transaction is $2900. Then, you have to realize they pay for all those marketing materials, photos, videos, etc out of their own pockets. If they spent $500 on photos/videos and another $300 on mail and digital marketing, their income is down to $2100. After paying self-employment and all the other income taxes (varies depending on income, but could be 25% or higher for a full-time successful agent) their income is now $1575. Also don't forget agents have no benefits so they have to pay out of pocket for health insurance, disability insurance, and liability insurance. Not only that, they have to pay yearly fees to the various Realtor associations and licensing fees to the state. Further, some agents pay hefty fees to Zillow and other sites to be featured as "premier agents," sometimes up to $2,000/month.

This is how you can pay $18,400 but your agent nets only $1,575. Oh yeah, and if you refuse to pay that $400 "administration fee," in some cases the agent could be required to pay some or all of it, so they could end up with something more like $1,275. 

All that said, what I've illustrated here is a worst case scenario for the agent. It features a combination of a referral partner, an expensive national brand, a low commission split with the listing broker, and high marketing costs paid out of the agent's pocket. 

How much work would you be willing to do for $1,275? That's about the area median income for a full-time week of work. No real estate transaction takes only a week of work though. At best, it's two months. At worst, it could be more than a year. You may be asking yourself why anyone would want to be an agent, now that you know more about how the pay actually works. Indeed, nearly 90% of new agents are out of the business within five years. So...why does anyone stay?

Not every transaction is a worst-case scenario. Let's talk about a best-case scenario from the agent's perspective with the same house:
  • Seller pays $18,000 (+$400)
  • after sharing 50% with buyer's broker: $9000
  • no referral partner
  • no brand licensing fees
  • MLS fee paid by broker
  • after 85%/15% split with broker: $7650
  • after $300 marketing costs: $7350
  • seller pays the $400 administration fee
  • after 25% income taxes: $5512.50

As you can see, the best-case scenario is dramatically more profitable for the agent. They net something more like 1.8% of your home's sale price rather than 0.4% in the worst case scenario.

Low pay can make any worker unmotivated and real estate agents are no exception. Be aware that if you are hiring an agent who is in the "worst-case scenario" I've described above, comparatively little of your money is actually going to them. An agent paying referral partners and large licensing fees could need to sell more than 40 homes each year to make the area median household income. It can be difficult to manage such a high volume of transactions. An agent in the best case scenario needs to sell about 11 homes each year to make the area median income, which is easily possible for an experienced and skilled agent.

Some agents use a "team" model where the leading agent works with several associates to try to handle a large volume of business. Those associate agents are often making less than even the worst-case scenario described above because they also have to pay the leading agent on their team. The team leader often benefits because they can get more reach for their brand and collect fees from their associates. If you hire an agent based on a billboard sign or TV commercial, and you see on Zillow that they do 200+ transactions a year, you're likely going to be working with an associate who is very possibly new to the business and is effectively making less than minimum wage. 

Special thanks to Jay Villella for taking to time to help us give consumers more transparency in the process of buying and selling.   You can contact Jay at anytime by clicking on the author icon below.