By Chris Spanos - Head of Valuation and Government Solutions at CoreLogic
Conflicts of interest can occur in any industry where buyers and sellers routinely interact. Adding further industry participants into the mix, such as real estate agents, financiers, brokers and valuers further increases the possibility of a conflict of interest. Given this, it’s no wonder that other real estate markets, like the USA, have evolved to a point where they routinely include an agent on both sides of the transaction.
What is a conflict of interest?
While there are many different scenarios that may constitute a conflict of interest, a useful definition is:“a set of circumstances that creates a risk, or perceived risk, that judgement or actions regarding a primary interest will be unduly influenced by a secondary interest”.
Put another way, a conflict of interest arises when an individual or corporation has competing interests in a single transaction or relationship. While conflicts of interest may be hard to define, they are often simple to understand in practice.
For example, how often does a potential buyer of property ask the vendors agent for the “inside scoop”? How often does a vendor’s agent tell prospects “if you can put in an offer at a certain price, I can get the vendor across the line”.
More simply, how many first time buyers even understand that the real estate agents they meet at all those inspections are, in fact, the vendor’s agents acting exclusively to get the best deal for the vendors.
Mitigating conflicts of interest
Given how often conflicts of interest arise in commercial transactions, especially in large deals where only a handful of professional advisers have sufficient scale, there are many techniques to deal with, or mitigate, conflicts of interest.
Declaring or disclosing: When a conflict of interest emerges or is identified, an important first step is for the conflicted party to disclose their conflict. This does not necessarily mitigate the conflict, but transparency is an important first step.
Removal or recusal: This refers to the practise of removing oneself from a transaction or situation where a conflict of interest has been identified. For example, a solicitor should not ordinarily advise on a merger where they are a material shareholder in one of the entities being merged. Similarly, a judge will not ordinarily preside over a hearing where they are a relative of the plaintiff or defendant.
Chinese walls: Where advice is provided by large practices, such as a top-tier law firm, a Chinese wall may be enough to deal with a conflict of interest. For example, a solicitor with a declared conflict may decide to work in a different department of the firm so that they have no visibility of a particular deal. Their computer access may be restricted and their daily team may agree to not speak to another team on any matter for the duration of a deal.
The role of buyers’ agents in US real estate
Given the potential conflicts of interest that can occur in real estate, especially when buyers have no professional representation at all, some jurisdictions like the USA have evolved to include an agent on both sides of the deal. This can help minimise conflicts and ensures, as a minimum, that buyers have access to professional advice when making a purchase.
In many ways it is Australia that can be considered odd, with buyers routinely spending hundreds of thousands of dollars on property absent any independent professional advice. Without experience, it can be difficult to even know what questions to ask of a vendor.
For example, when looking to buy an apartment on strata title, how many buyers know what enquiries can be made of the Owners Corporation? Similarly, how many buyers understand the legal obligations regulating a vendor’s agent? While they are prohibited from lying, does that mean buyers can expect full and frank disclosure from a vendor’s agent every time?
The rise of buyers advocates
Given the obvious benefits, why have buyers’ agents not taken Australia by storm? The short answer is agent commissions. In Australia, we are used to 3-4% of a sale’s proceeds going toward agent fees. In the USA, it is more like 5-6% of a sale’s proceeds being split as commission between buyers and vendors agents.
In an attempt to sidestep the perception of a ‘commissions grab’, we have observed the rise of ‘buyers advocates’. The principal difference between an agent and an advocate is the method of their compensation – an advocate gets paid for services rendered, usually on an hourly basis, as opposed to a commission. This method of compensation means that a buyers’ advocate can give independent advice without the constant pressure of pushing for a sale.
In fact, some would argue that the commission structure for agent compensation (both vendor and buyer) introduces an obvious conflict from the moment an agent is selected. If an agent only gets paid when a property transacts, aren’t they incentivised to push for a transaction at all times regardless of whether it is in a vendor’s or buyer’s best interest?