Affiliated Business: The Nemesis of Reason

By
Services for Real Estate Pros
Normally, I have no problem sharing my thoughts about affiliated business, yet for some reason found it difficult to do in an Active Rain post.  I have, in fact, relentlessly denounced affiliated business in the same manner as a preacher condemning sinful acts from the pulpit.

The concept of affiliated business in real estate transactions was born of the Reagan Bush brain-trust during the late 1980's.  The federal mood and agenda at the time was one that encouraged bigness of business.  It was thought that "deep pockets" paired with technology could create an environment that reduced costs and enhanced services for consumers who were purchasing or refinancing a home.

It all appears to be simple and reasonable enough.  An affiliated business arrangement exists when a real estate brokerage and a title company share the ownership of a title company.   By partnering in this way, real estate companies and agents are entitled to share in the profits of a captive operation. 

Keep in mind, there are any number of possible variations to the theme including joint ventures with mortgage brokers.  I'm trying to keep this post as straightforward as possible by dealing with only the title industry's perspective.

To be legal, and RESPA compliant, a lengthy laundry list of requirements must be strictly adhered to
.   The agent has to contribute capital to the venture in an amount equal to the agent's proportionate ownership interest.  Any monies dispersed have to take the form of a legitimate distribution of profits.   Also, the new company can't share space, staffing, or management with an existing title company.  It has to be a free-standing business that supports itself by offering core title services.  Establishing a legitimate affiliated business is an expensive and risky proposition that requires a great deal of planning, capital, and the involvement of an attorney familiar with RESPA implications.

It's patently illegal for a real estate agent to receive benefits, on a per deal basis, for doing nothing more than placing an order in an in-house pipeline.  By benefits, I'm referring to checks, sometimes called "hard dollars," or "soft dollar" inducements that offset desk or advertising fees.

The experiment that is affiliated business has been successful only in limited parts of the country where ownership records are available in the form of highly automated title plants.  Keep in mind: success is measured only in terms of benefits to consumers, not real estate professionals.  For the most part, the project has proven a dismal failure due to the very nature of abstracting and examining titles.  It's a process that's more closely akin to a professional practice, not a manufacturing operation that experiences economies of scale through increased volume. 

In many instances, consumers are horribly overcharged and subjected to inferior service because the title company in a directed business situation has no incentive to be anything other than mediocre and has to share profitability.  Restrained competition, never a good thing, inevitably results in complacency and exploitation.  It also has a tendency to attract those who aren't the best or the brightest.  Affiliated business doesn't have to produce stellar results or be the least expensive alternative, it just has to be good enough to pass for a close facsimile of the real thing.

Surely everyone acknowledges the benefits of competition:
  • Do we not encourage our children to engage in healthy competition to learn the value of superior performance? 
  • Can you imaging sending your children to school with the expectation of being average academically, socially, or athletically?
 Of most concern to real estate agents should be the contradiction between affiliated business and fiduciary obligation.  Is it possible to remain completely impartial when referring service providers while the promise of additional income rests in one particular provider?

I highly recommend a blog hosted by Minnesota attorney Doug Miller.  Ethical Practices in Real Estate offers practical advise that can't be found elsewhere.

In a recent post, Doug issued a relevant and timely warning:
  • Has your manager given you advice on how to address “objections” if your clients want to select their own title company?
  • When it's time to negotiate your commission split, does your manager or broker first look at how many files you’ve sent to the in-house title company?
  • Do you find that there is an unusual absence of marketing materials or presentations from outside title firms? 
Doug suggests that you "find another broker to hold your license" and a "class action attorney" if you "answered yes to any of the questions."

I happen to fully agree with Doug.  As attractive as affiliated business might appear at first blush, the business model offers numerous perils for real estate agents from a legal perspective and as a practical matter.
 
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Rainer
52,317
Erica Crowell
eRealty Inc. - Wake Forest, NC

Hmmm...loaded blog post.  I'm one of "those Realtors" who offers 2 services to my clients.  I feel disclosure is key.  I have a RE and mortgage license and the capability to wear two hats.  However, I still think the buyer has a choice! 

Example: If I receive a call from a buyer, my first question is have you spoken to a lender yet?  I don't want them to waste their time or mine if they cannot afford the home they are calling about.  Since I do have a partnership with a mortgage company, I have the opportunity to build a relationship by offering to collect some basic information from them and help them start shopping for a mortgage.  I don't price the loan, I don't provide the GFE or approvals, I just initiate the process and a loan coordinator with my company take over, just like my buddies used to do.  I'm involved at that point only to initiate ...that is why I do not see it as a conflict.

If they shop around, which I always encourage...they can and sometimes do find a strong deal.  No biggie, I just had the chance to participate if it was the best fit.  I'm finding that buyers really like the fact that I can "help" them before I jump in the car and sell them something.  I think it is very professional but it is all in disclosure and education.

It's working here but we are also a very Internet savvy spot...I don't think other areas in the USA are ready for this yet.

Jan 22, 2008 03:19 PM #46
Rainer
100,231
Ed Rybczynski
Havre de Grace, MD

Erica - Interesting!  I have to agree that your business model is progressive and it sounds like you believe strongly in disclosure.  I do as well.  Thanks for sharing your perspective.

Scott - I tend to think that mediocrity is a by-product of controlled business in any form.  Affiliated business reminds me too much of bureaucracy where the end user is basically forced to accept services such as they are. 

What incentive does a captive title operation have to improve?  None that I can think of. 

Competition, free markets, and the profit-motive are the variables that compel us to stellar performance.  Thanks for commenting.

Jan 22, 2008 03:55 PM #47
Rainer
100,231
Ed Rybczynski
Havre de Grace, MD

Bill - It's difficult to argue against your talking points as I agree in substantive ways, yet disagree in equally substantive ways.  Unquestionably, I would like to see heightened licensing standards and consumer savings created by proprietary technology.  However, I don't see how these concepts are the exclusive domain of big business.  I find them comfortably compatable in the context of small, localized businesses. 

This debate is provocative to say the least.

Jan 22, 2008 04:10 PM #48
Rainmaker
260,733
Bill Roberts
Brooks and Dunphy Real Estate - Oceanside, CA
"Baby Boomer" Retirement Planner

Ed, There is nothing inherently "big business" about the concept except to say the major players would probably be better at creating an identity which the public would trust. They will also have the correct mindset to employ people on salary whereas the small, local firm will find it difficukt to get away from their commission only model. Another problem in the current real estate milieu is the "cult of me" type of branding that has been going on for the past thirty years. It will take a major player to supplant this attitude. The little guy won't be able to.

Bill Roberts

Jan 22, 2008 05:09 PM #49
Anonymous
Anonymous
Anita JW Backlund

After having read all the prior posts, the one thing that sticks out like a sore thumb to me is the point that affiliated business have an inherant conflict of interest when it comes to title.  If a "cloud on title" appears that may be a bit difficult to resolve and remove, the AfBA, with or without the consent of their underwirter, can merely "insure over" that defect.  Like the old Breck shampoo commercial - and so on and so on - this will completely pollute the public records and create a scenario that the public records will be completely unreliable to anyone purchasing any type of real estate as to whether it is "good" title or not.  Why oh why are the underwriters willing to dessimate the system of land records that have existed since before the US was a nation? 

 

Jan 22, 2008 05:36 PM #50
Rainer
100,231
Ed Rybczynski
Havre de Grace, MD

Anita - Your words are music to my ears.  I'm not sure that all readers fully understand the concept of indemnification as it relates to the title industry and more particularly the long term implications.  It's something that deserves definition and clarification in a separate post.  I like your use of the word "pollute" as underwriters are clearly destroying the integrity of land records in what appears to be a miraculous transformation of title insurance into a casualty product.  The consumer will ultimately suffer as will smaller title companies.  Thanks for your comment.  I have a feeling that your an abstractor.  

Bill - I follow your line of reasoning.  I'm going to explore the issue by way of a separate post or two.  We've covered a lot of territory today when you think about it.

Jan 22, 2008 05:49 PM #51
Rainmaker
260,733
Bill Roberts
Brooks and Dunphy Real Estate - Oceanside, CA
"Baby Boomer" Retirement Planner

Ed, I'll be waiting for your new posts. In the mean time you have inspired me to write a new post on fiduciary duty: What Do We Owe Our Clients?

Bill Roberts

Jan 22, 2008 07:03 PM #52
Anonymous
Anonymous
Anita JW Backlund
Ed - Thanks for the encouragement!  Yes, I am currently an abstractor (licensed, as a matter of fact, in MN - one of the few licenses here that require testing - but thta's anothr story).  However, I started out in this profession in 1977 as a "baby" paralegal working in a law firm, having been taught by a wonderful attorney who graduated Yale Law School in 1940.  At the time in NY (relocated to MN 10 years ago), attorneys were still abstracting and providing attorneys opinions rather than title insurance on purchases (there were hardly any refinances back then).  I have also been a title agent the last 10 years I was in NY, where controlled business is (or was) nonexistent.  It made the hair on the back of my neck stand up when I saw how rampant (an corrupt) is was in MN, thus I decided that abstracting was the only way to actually make a difference here.  I have worked very hard to maintain my reputation in this industry.  However, it is extremely difficult when the majority of the industry is absolutely clueless as to what is truly invovled in title abstracting nor do they care.  The majority ony seem to care about cheap and fast.  Always reminds me of a an old saying - Cheap no good - Good no cheap.  It absolutely sickens me to see what has become of this profession and the public records. 
Jan 22, 2008 09:10 PM #53
Anonymous
Anonymous
Anonymous

Ed - I just changed brokers because of the pressure to use affiiated businesses. I have a loan officer I'm thrilled with and a closer at a title company that I like, but was always "encouraged" to use one of the preferred vendors.

It always just seemed to have a stink to me.  Congratulations on your feature!

Jan 23, 2008 02:50 AM #54
Rainer
100,231
Ed Rybczynski
Havre de Grace, MD

Bill - I'll be around.

Anita - My experiences were very similar to yours.  I too learned abstracting from an older attorney who had "old school" standards.  About a year ago, I closed my abstracting company, primarily Baltimore City, due to sheer frustration.  It was the only viable option since the company was losing money.  Competition had driven price levels to unrealistically low levels and requested turn around times were impossible.  Needless to say, offshoring has decimated abstracting as it was once known in Maryland.

It's going to be horrific when the claims eventually start to hit.  I'm convinced that we're going to see a storm of class action litigation that will change the entire real estate industry forever.  It sounds crazy to many, but the process starts with the "lowly" abstractor.  A properly conducted abstract sets the stage for a successful closing and litigation free homeownership.  The elimination of abstracting standards will create a domino effect with a broad real and lasting consequences.  

Jan 23, 2008 05:43 AM #55
Rainer
100,231
Ed Rybczynski
Havre de Grace, MD
Linda - Thank you for sharing you perspective.  I hope that others find the courage that you've demonstrated to walk from brokers who have no right to eliminate competition and free trade.  In theory, affiliated business sounds great, in practice it's been a real bane to the industry.  The consumer has the ultimate say in the matter.
Jan 23, 2008 05:50 AM #56
Anonymous
Anonymous
Tim Killcoyne

Ed and Anita
Just had this thought about off-shoring and abstracts.  The only place abstracts might still be used here in the West is mineral searches.  The last abstract I touched in title insurance was probably 1979 or 80, but I was still using abstacts when I left oil & gas in 86.  The landmen and O&G attornies I know working today still use them.  Given the enormous complexity (and huge dollars at stake) of mineral searches, I am hard pressed to see offshoring of these searches.
Now I know this post is about afiliated businesses, but part of the issue is the underwriters and large agencies moving critical pieces offshore - and I can't help but wonder how this other piece of industry will be or is being affected today.  Thoughts anyone?

Jan 23, 2008 09:42 AM #57
Anonymous
Anonymous
Anita JW Backlund

Tim - IMHO, the slippery slope started when title underwriters bagan their push to rely on prior insured titles, rather than passing abstracts between parties at a sale transaction.  This started in downstate NY in the early 1980s.  It is my understanding that abstracts are still being updated and passed in upstate NY, at least that was the norm when I moved to MN 10 years ago.  However, this may have changed since then.  In MN it is just starting.  I have seen about 10-25% of purchases still utilizing updated abstracts.  However, there is that other oddity in MN called Torrens (a whole other disucssion).  The Fund in FL and Old Republic Title in MN were the first to require use of their own title plants.  With all the mergers between the underwriters, the choice has become very slim.  I believe they merely looked at this idea of a title plant and requiring the agents to utilize them looked like a cash cow.  Many title agents valued their agencies based upon the value of their title plant.  The underwriters just took this to another level by outsourcing their plants to Bangalore.  When the underwriters started competing with their own agents, it was bad, but now it is much worse with this outsourcing situation. 

Unfortunately, with sooo many untrained and inexperienced hands touching the public records and title plants, God help us all as to what it will be in just a few years, not to mention, as Ed did, the amount of claims that are soon to hit. 

Jan 23, 2008 10:54 AM #58
Anonymous
Anonymous
Donn the Titleman

Has anyone read "Who Moved My Cheese?"?.  The world is changing rapidly and so is the title insurance and settlement services market.  Unfortunately, it is the customer/consumer who cedes their choice of service provider to others.  I have been in the industry since 1972 and no matter how I have attempted to convince potential customers it is their perogative to choose, they continue to abdicate their choices to others.  So as independent agents, we need a way to overcome the lack of competition created by the real estate broker in-house title companies where the benefits of ownership are only shared with the broker and title partner.  This is where I think we can beat them at their own game by creating an AfBA with real estate agents only.  Until congress decides the experiment of the affiliated business model is a failure and takes action to eliminate it, we have to find ways to continue to survive.

Feb 12, 2008 04:09 PM #59
Rainmaker
623,209
Randy Prothero
Island Style Realty Inc. - Mililani, HI
Hawaii REALTOR, (808) 384-5645

I will not hang my license with any company who has those practices.  I like what I do, I like my license and I guard my reputation.

Nov 07, 2008 07:47 AM #60
Rainmaker
65,704
Jon Boyd
Home Buyer's Agent of Ann Arbor - Ann Arbor, MI
Ann Arbor Real Estate Buyers Agent

Ed,

I agree that many consumers are hurt by the ABA conflicts. In our market until recently the in-house title service was poor and the prices were high.

In the last two years some of our local brokers have greatly improved the quality of service from their in-house title companies, but they often still charge above market fees for closing and recording processing. We were recently able to negotiate a $275 reduction in these fees for our buyer, but I have to believe that few if any of the buyers that work with that brokerage ever receive a reduction to market prices for those fees.

 

The more dramatic conflict of interest though is what Lenn has already pointed out. Dual agency.

One of the larger offices in our area pays their "designated buyer agents" about 25% more if they sell an in-house listing. That is a shamefule conflict of interest and one that absolutely should be disclosed to the consumer. I doubt if that is ever disclosed.

I wonder if AR members in larger Ann Arbor offices would like to comment???

 

Also, I say "designated buyer agents" because that is what they are. They are not buyer agents. But that is a topic for a different post!

 

Nov 08, 2008 11:43 AM #61
Rainmaker
238,841
Benjamin Clark
Homebuyer Representation, Inc. - Salt Lake City, UT
Buyer's Agent - Certified Negotiation Expert

Mom said not to say anything at all, so I'll just say, good post!

Nov 12, 2008 01:07 AM #62
Rainer
59,862
Sonja Adams
Samson Proprties - Purcellville, VA

Great post with some really great information...thank you for posting!

Nov 26, 2008 08:33 AM #63
Anonymous
Anonymous
Houston search engine optimization

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May 14, 2009 02:28 AM #64
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Anonymous
seo firm

Yes we guard our reputation also, but are careful about other companies.

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Aug 13, 2010 06:41 PM #65
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