Crackdown on independent contractors
The coming shift in real estate: Part 1
By Bernice Ross, Monday, April 19, 2010.
Flickr image by lumaxart.com.Editor's note: See related article: "8 reasons we need independent contractors."
Could the National Association of Realtors lose more than half a million members in one simple stroke of President Obama's pen?
Several months ago Fafie Moore of Realty Executives Nevada alerted me to a crackdown on independent contractors' employment classification.
According to Moore, a legislative provision dealing with independent contractor status could occur as an add-on to another bill.
If the independent contractor status of real estate agents were eliminated, the results would be devastating to current business models. Many brokers would be forced to move to an employee model. Would individual agents set up separate companies to contract to do work with the broker's company? The havoc this would wreak within the industry would be beyond almost anything we can imagine.
It likely won't come to that. In an article in this month's edition of Realtor Magazine, an official publication of the National Association of Realtors trade group, J.D. Rinehart, NAR's vice chairman of NAR's Federal Taxation Committee, said, "For real estate, sales associates' status as independent contractors is very well defined in law and laid out very simply."
He added, "We're in good shape ... as long as we continue to adhere to these very well-established criteria."
The article's author, Robert Freedman, also notes, "Much, if not all, of any stepped-up enforcement would likely bypass real estate, NAR analysts say," as a special provision in the Internal Revenue Code (Section 3508) provides specific criteria that real estate brokers use to classify sales associates as independent contractors.
Freedman does note that there has been an "intensified" focus on the issue of independent-contractor status, and the Obama administration has supported a "ramp up" in "investigations of employee misclassification."
And members of Congress have introducted legislation (see: Taxpayer Responsibility, Accountability, and Consistency Act) to clarify the definition of independent contractor, among other aims, Freedman reports.
Because of its reliance on the independent contractor employment model, a total cessation of that classification would be disastrous to the industry.
Here are just a few examples of the potential fallout such a hypothetical change could produce:
1. The brokerage-agent cost relationship shifts dramatically
Broker profit margins are already thin. Many of the largest firms are running at a loss. Thousands of companies are tied to long-term leases for large office space. A forced switch from independent contractor agents to employee agents means that brokerages will now have to pay normal employee expenses, including unemployment insurance, workers' compensation, as well as the employer share of Social Security withholding (FICA).
As an employer, the brokerage may also have to be responsible for handling errors and omissions insurance, auto expenses, computers, phones and all the other normal expenses linked to having employees. It's also unclear whether the brokerage would also be responsible for MLS fees, any costs related to marketing the firm's listings, and possibly auto expenses as well. These additional expenses would put many brokerages already on the edge out of business.
2. Surviving brokerages will have to reinvent their business and compensation models
An immediate outcome of this shift would be that most brokerages would fire all nonproductive agents. This would eliminate virtually all part-timers plus a large percentage of full-timers who do a few deals per year. Of those who remain, high commission splits would become a distant memory.
Because the brokerage would be incurring so many costs, brokers will have to reduce agent splits. "Draw against commissions" and "production quotas" would become part of the standard lexicon of residential brokerage. ...CONTINUED
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Submitted by Anonymous on April 19, 2010 - 11:42am.
Bravo,it's about time that the IRS cracked down on the fraudulent independent contractor scams that real estate brokerages have been using to evade paying federal taxes on regular earned income!
Submitted by William Metzker on April 19, 2010 - 12:34pm.
Can't wait for Part 2.
Submitted by Stew Keene - Realtor on April 19, 2010 - 12:49pm.
Great Article Bernice!
I have been seriously considering getting my brokers license to be independent.
Maybe I should now in the event something like this comes around.
Thanks for the insight,
Stew Keene - Home Smart Realty
ABR GRI ePro CSSN CNE MRE AHWD
www.stewkeene.com
480-220-7491
stewkeene@gmail.com
Submitted by Jennifer Tome on April 19, 2010 - 12:52pm.
Thank you Bernice....I actually need to take my broker test in the next month or I have to retake the educational portion....you just pushed me over the edge...I am going to schedule right now!
Submitted by Tyler Webb on April 19, 2010 - 12:56pm.
It is my humble opinion that elimination the IC classification would be a blessing in disguise. Elimination would allow brokerages to run themselves as real businesses. Training, coaching, team work, company and individual goals and on and on. Such a breath of fresh air.
The agents who sell one or two houses a year would be gone leaving more for the agents who take this business seriously.
Talk about raising the bar . . . that would happen to the benefit of everyone in the system. Agents, buyers, sellers, brokers.
Of course, NAR will fight it for the status quo of mediocrity in one of the most important industries in the country.
Tyler Webb
Champion Realty Inc
Annapolis, MD
www.recrab.com
@recrab
Submitted by Missy Caulk on April 19, 2010 - 1:01pm.
"According to Moore, a legislative provision dealing with independent contractor status could occur as an add-on to another bill."
Seems to be the way to do things in this administration. Not good.
Missy Caulk
Ann Arbor, MI
Missy@MissyCaulk.com
www.AnnArborRealEstateTalk.com
www.SearchAnnArborHouses.com
Submitted by Daniel Bretzke on April 19, 2010 - 1:06pm.
If 50% of the agent's left the field, it would probably be the agent's who are not committed to being in real estate. A lot of agent's would become brokers and hire non-brokers to do marketing and other non transaction related tasks.
Submitted by John Rakoci on April 19, 2010 - 1:09pm.
I am a broker and simply prefer not to have the added paperwork of going independent. I do believe this would eliminate the part timers that are not fair to their agency, peers, or clients. Our numbers grew during the boom and some are hanging on for the next one (although they will not live long enough to see it). Since independent contractors have little cost they look for the numbers - an agent that sells 1 house a year is a profit source to them but a detriment to the industry.
Submitted by Roberta Murphy on April 19, 2010 - 2:38pm.
Though it might shrink a bloated force of real estate agents, I fear this legislation would be just another instance of government growing itself at the expense of private industry.
And to further avoid government-imposed costs, taxes and fines, many broker/employers will simply migrate marketing and non-transaction jobs offshore.
Looking forward to Part II.
Roberta Murphy
San Diego Previews Real Estate
http://www/SanDiegoPreviews.com
http://www.LuxuryHomeDigest.com
877-818-8197/760-402-9101
Submitted by Abe Ulug on April 19, 2010 - 3:04pm.
I cannot imagine this going through. It would completely change the industry. In fact owning a real estate company would become extremely high risk business. Brokerages' liabilities and expenses would be dramatically increased while Revenue potential remaining the same. The brokerages would have to scale up to spread the risks. In other words, expect rapid consolidation of brokerages.
Practically speaking, a broker can only employ agents with a steady stream of business. That is only 10-20% of active agents. The rest would have to become sources for (compensated) referrals.
Due to consolidation, competition would be reduced and it would lead to higher consumer prices for real estate agency fees.
None of these are desirable policy consequences. The only hidden benefit (from macroeconomic perspective) could be increased productivity. Since we are at 9.x% unemployment, this does not matter today. When the economy is rolling again, it may be worthwhile discussing this, until then, Gov't should just impose whatever taxes are avoided (Unemployment, Workman's Comp.) on independent contractor real estate agents. Does that make a real estate agent who has not had a deal in 3 month eligible for unemployment benefits?
Abe Ulug
Submitted by yuli Lyman on April 19, 2010 - 3:40pm.
Change is painful!
This sounds so much like those auto Big 3...
Submitted by Brad Bergamini on April 19, 2010 - 4:20pm.
Wow ANOTHER REASON to vote... hwo will that affect other types of vocations or is it just aimed to subjugate real estate?
Brad Bergamini
The Bergamini Group
Realty Executive Northern Arizona
http://bradbergamini.com
http://EverythingPrescott.com
Submitted by Ileri Ogunfiditimi, REALTOR® on April 19, 2010 - 4:59pm.
My understanding is that the government is really targeting companies that have either intentionally or unintentionally misclassified their employees as independent contractors (ICs) to avoid paying Medicare and Social Security and other employment taxes and employee benefits. Examples of companies that have already been fined by the IRS for worker misclassification include FedEx and Microsoft.
The government isn't trying to destroy the cottage industry or small businesses, but just bring in-line companies that "say" that their workers are independent contractors, but then treat them like employees. In the eyes of the IRS, if an IC is treated like an employee, they're an employee and are entitled to certain benefits. It's the law that employers must pay Medicare and Social Security, Workers' Compensation, and other taxes and benefits.
However, some companies are using the IC status to avoid the legal requirements. So, this is an issue affecting all businesses, not just real estate brokerage firms. As stated in the REALTOR magazine article, real estate agents are statutorily classified as independent contractors or self-employed businesspeople. Consequently, agents are required to pay both sides of Medicare and Social Security as the IRS views self-employed workers to be both an employer and an employee. Normally, the employer would pay half of Medicare and Social Security and withhold the other half from the employees' income. These are legal requirements all businesses must adhere to if they have or don't have employees. It's a part of doing business.
In relation to the real estate industry, many agents, managers, and brokers aren't familiar with the employment laws or understand what it means to be or "employ" 1099 independent contractors. 1099 ICs are small business owners, not unlike management consultants, solo law practitioners, and other independent service professionals. Real estate practitioners are actually in a good position because they're given the opportunity to build a viable small business in affiliation with a sponsoring brokerage firm and enjoy the benefits of entrepreneurship, self-reliance, and independence while not being alone. The broker-agent relationship is analogous to the franchise-franchisee platform (i.e business within a business). This is something that is unique to the real estate industry and abscent from most conventional type industries.
So, I think practitioners should embrace their small business status and educate themselves on small business and self-employment so they'll be able to build something with equity that will serve them well throughout or at the end of their careers. Most of us really don't know how good we got it in comparison to other professional practitioners.
And I'll close with this last point. Brokerage firms can hire agents as employees if they want to. There's no law mandating brokerage firms or any business, for that matter, to have agents (or workers) as 1099's. It's a business choice. In fact, there's already another type of independent contractor that a business can use. The status is legally called "statutory employee." It's basically a hybrid, where the worker is an employee because they receive a W2 at yearend, but also an independent contractor because they're able to report their income/expenses on the Schedule C just like 1099 independent contractors. Examples include delivery drivers and corporate salespeople.
So broker-sponsors have options and most agents are already small businesspeople (thanks to our industry predecessors who lobbied for agents to be classified "on the books" as statutory ICs). So, there's no need to run out and get a broker's license in order to be an independent business owner - which is the real tragedy. So many of us have gone a full career not knowing that we've been running a small business (i.e. real estate practice) all along and as a result have not experienced the entrepreneurial benefits or taken advantage of the vast resources provided by our beloved industry.
Ileri Ogunfiditimi, REALTOR®
Ileri Ogunfiditimi, LLC/Jobin Realty
7825 Tuckerman Lane, Suite 201
Potomac, MD 20854
Direct Dial (240)403-3400, Ext 742
Direct Fax (866)283-7840
Email: ileri@ileriogunfiditimi.com
www.ileriogunfiditimi.com
www.jobinrealty.com
Submitted by Kimberly Burnett-Thomas on April 20, 2010 - 6:48pm.
Ileri has it absolutely right! No need to sound the alarm. His interpretation of the Obama Administration's goal with any crackdown on ICs, given the research I've done, is correct. It is an effort to reign in cheating employers. If there are brokerages that are treating actual employees as independent contractors -say there's a secretary who should receive a W-2 because she's required to be at the office from 9-5, 5 days a week; but she gets a 1099 - then that's a problem. That brokerage should be concerned. Until we hear more, I think it's a safe bet, as Bernice hints, that Realtors will continue to practice just as we have - however astutely, or poorly that may be.
Kimberly Thomas, Broker-Associate
Realty Executives Brown & Pope of NJ,PA,DE
1101 Laurel Oak Rd., Ste. 110
Voorhees, NJ 08043
856-308-5989
www.NJHomesNearPhilly.com
email: kim@kimcanhelp.com