Agents earn their money on a commission basis. The process by which agents earn their commissions is complex, involving agents, their brokers, and the Multiple Listing Service (“MLS”).

Each region has its own MLS. Originally, this consisted of written records regarding properties for sale. Now, of course, the data is available online. In order for a seller to get the property on the MLS, the seller signs a listing agreement with an agent. That listing agreement requires the seller to pay a commission – typically 6% –when the property sells. The rules of the MLS require the agent to then split this commission with an agent working with the buyer. Thus, when a seller uses a flat fee MLS listing service, the seller need not pay 3% to a seller’s agent. However, the seller must still pay a commission to a buyer’s agent, as required by the MLS rules.

A real estate agent works under the supervision of a real estate broker. Brokers are usually held to a much higher standard in regards to licensing requirements. While there may be hundreds – or even thousands – of agents in a community, there are generally only a handful of brokers. The brokers are members of the local MLS, and each agent gains access to the MLS through his or her broker. The broker usually provides the necessary resources to the agent (office, insurance, guidance, etc.), while the agent usually works directly with the clients.

There are two roles that an agent may play: the “Listing Agent,” who works for the seller by listing the property on the MLS; and the “Selling Agent,” who works with the buyer. Each of these agents is affiliated with a broker. When the property sells, the commission (as set by the listing agreement) technically belongs to the broker. Each broker (the Listing Agent’s broker and the Selling Agent’s broker) takes one half of the commission. The “typical” arrangement is for the broker to then split that commission with the agent. Because each broker typically gets a 3% commission of the sale price (the typical 6% commission split between the two brokers), the agent usually makes at least a 1½% commission, and often more.

This method of compensation leads to potential conflicts of interest between agents and their clients. From the buyer’s perspective, the buyer wants to pay as little as possible for the home. However, from the agent’s perspective, the more the buyer pays, the more the agent makes. Moreover, in regards to both buyer and seller agents, the agent has an interest in a quick closing, as the agents get paid when the deal closes. Thus, the agents may not be focused on issues that weigh in favor of a delayed closing or even termination of the sale. In addition, while the seller may be willing to hold out for a slightly better offer, the seller’s agent is more likely to want the seller to accept the first reasonable offer, as the agent’s commission will not increase sufficiently to justify a delay in getting paid. For example, if the seller waits two weeks and gets a selling price $5000 better than an earlier offer, the delay will lead to only an additional $75 to the agent (1 ½ % of $5000). A noted economist at the University of Chicago, Stephen Leavitt (author of the book “Freakonomics”) studied these dynamics in the Chicago housing market. Prof. Leavitt concluded that “homeowners are induced by their agents to sell too quickly and at a price that is too low.”