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Understand how real estate agents are compensated before you start shopping for an agent.


People spend more time shopping for a TV than for a real estate agent. This, sadly, can cost them thousands of dollars, and often does.

When house prices are surging and a modest home can cost $600,000, excitement can lead to indifference about what agents charge. But that's a mistake under any circumstance. Homeowners who understand how the realty business works, which this little primer will attempt to explain, will be far better off.

1. Don't hire a friend

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The easiest mistake is hiring an agent simply because you know him or her – it's a friend, a second cousin or just an acquaintance. You might not even want to hire that person, but it's awkward to say no, or to haggle.

A friend of mine who wanted to sell his house hired his childhood pal because he pressed him for the listing. The agent sold the house in two days, which my friend at first thought was great work. When he discovered it sold fast because it was very underpriced, he had second thoughts. He paid $22,000 for this "service."

Takeaway tip: Make your agent earn your business whether you know him or not.

2. A quick sale benefits the agent

You have to understand the agent's incentives, and how they differ from yours. Agents understandably want to sell as many homes as quickly as possible. The selling price, which is your main concern, is not so important to them.

When I sold my house a few years ago I hired the agent who'd sold the home across the street in a bidding war, figuring he must be talented. Was I wrong. My house also triggered a bidding war, which was very exciting. One at a time, three agents brought their clients into the house to table an offer while the others waited in their cars. The bids rose quickly and we blew past the asking price. One bidder dropped out, and one of the remaining two came in to make his fourth bid of the evening. My genius agent – "let me do all the talking" he said before the auction started – accepted it. Stunned, I asked him for a word in the kitchen, and told him we should get a counterbid.

"It's a good offer," he said. "Let's not be greedy."

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Fortunately I insisted, because the other bidder offered $10,000 more.

Why would my agent not try to get one last bid? Remember that Freakonomics YouTube video from 2010? As Steven Levitt and Stephen Dubner pointed out, that extra $10,000 added only $300 in commission on a 6-per-cent commission, which he would get half of. He'd already made thousands: What was an extra $150, especially when it was Saturday night and he was eager to get home? It might have been almost $10,000 in my pocket, but it was nothing to him.

Takeaway tip: Don't get rushed in the bidding war. Push back if you think you've got a shot.

3. Myth: You get what you pay for

Most people think commission rates are high but accept them anyway. There are full-service discount realtors who charge less and offer the same service. Why hasn't this caught on faster?

Some homeowners are convinced by the industry that "you get what you pay for." That's what traditional agents always say. But it's clearly not true. Are agents working twice as hard today as they were 10 or 15 years ago? Obviously not, yet commissions have doubled in that time along with home prices. Rates very by province but assuming a 5-per-cent commission, the cost of selling an average-priced house in Toronto is $25,000 today compared, with half that a decade or so ago.

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If you got what you paid for, they'd be working two times harder right? In fact, technology – Internet, smartphones, iPads – has made their jobs a lot easier. Commissions are too high in many cases. But what's the right number? Is it 1 per cent? Or 3 per cent?

Takeaway tip: You should always negotiate the commission. Before you even let an agent in your door, ask them what they charge. You can also structure the commission as an incentive. For example: 2 per cent of they sell your house for the asking price, double or even triple it if they exceed asking price by 10 per cent.

4. How the realty industry operates

Before answering the 1 per cent or 3 per cent question above, you have to understand how the industry works. Agents who work for big-name firms have to charge a lot because they're charged big fees, as much as $2,000 a month. It's not that agents are greedy; it's that big firms are charging them through the nose.

Takeaway tip: Avoid agents with big overheads; they're more likely to be desperate to generate a quick commission to pay their bills, even if it's at your expense.

You also don't want your agent making too little. If he charges too little and needs 20 listings at a time to make a decent living, you won't get good service. Most people are good enough at math to understand that an agent charging 1 per cent will save you money compared with an agent charging twice as much, assuming they both sell your house for the same amount.

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But will the cheaper agent return every call? Will he see to every showing?

Probably not. He or she is more likely to miss that prospective buyer who loves your home and wants it badly.

An agent charging 2 per cent who works only a little harder can get you a lot more money. If he sells your $500,000 home for only 5 per cent more, he'll put an extra $19,500 in your pocket after commission. (Interestingly, there's a realty company in British Columbia that charges homeowners a 1-per-cent commission but the minimum dollar amount is $6,900, so clearly 1 per cent isn't enough.)

In other words, the cheapest agent is not necessarily the best, neither is the most expensive one. When you get quotes for a kitchen renovation, you usually don't choose the highest, or the lowest. Picking an agent is no different. Price is important, but there are other factors involved.

Final takeaway tip: Do your homework and shop around. It may be old-school advice, but it's so worth it.

Fabrice Taylor writes about investing in Report on Business.

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