Opinion: The myth of financing buyer agent commissions

By BrokerOwner.net August 30, 2024 Housing News

The
proposed
settlement
between
the
National
Association
of
REALTORS
(NAR)
and
class-action
litigants
has
prompted
much
discussion
about
a
series
of
practice
changes
affecting
compensation
for
real
estate
professionals.
Despite
bipartisan
agreement
that
supply
shortages
are
driving
housing’s
unaffordability
issue,
some
point
to
commissions.
As
a
salve,
a
vocal
minority
of
activists
say
that
“simply”
allowing
the
financing
of
buyer-agent
commissions
into
mortgages
will
resolve
all
concerns.
As
an
economist
focused
on
the

real
estate
market
for
years,
I’m
wary
of
ideas
that
sound
too
good
to
be
true.

This
claim
is
misguided,
oversimplifying
a
more
complicated
reality.

For
reasons
both
practical
and
legal,
buyer-agent
commissions
are
not
today
explicitly
financeable
with
a
mortgage.
For
loans
backed
by
Federal
Housing
Administration
(FHA),
it
is
a
matter
of
law.
For
mortgages
backed
by
Freddie
Mac
and
Fannie
Mae
(the
GSEs)
or
the
Department
of
Veterans
Affairs
(VA),
it
is
a
matter
of
policy.

Some
advocates
are
urging
“simple”
changes
to
allow
mortgage
financing
of
commissions
to
benefit
homebuyers
unable
to
pay
a
buyer’s
agent
commission
out
of
pocket.
But
this
is
much
easier
said
than
done.
To
do
this,
the
GSEs
would
have
to
change
their
policies
and
get
the
approval
of
regulators.
Likewise,
for
FHA
loans,
you’d
need
to
pass
an
Act
of
Congress,
while
Veterans
would
need
to
convince
the
Secretary
of
Veterans
Affairs
that
a
change
is
in
the
best
interest
of
veterans,
taxpayers,
and
investors.

But
let’s
suppose
all
that
occurs.
What,
then,
would
be
the
benefit
to
potential
homebuyers?
Would
it
be
worth
the
effort?
The
answer
is
that
there
are

no
new
benefits
if
you
explicitly
include
buyer
agent
commissions
in
mortgages.
If
buyers
pay
the
commission
out
of
pocket
(which
is
already
allowed),
they
will
have
less
cash
remaining
for
their
down
payment.
This
would
lead
to
less
favorable
terms
for
buyers
because
they
would
face
a
higher
loan-to-value
ratio
(LTV).
And
if
they
instead
explicitly
roll
the
commission
into
the
loan
balance
but
put
all
their
cash
towards
the
downpayment,
the
results
would
be
effectively
the
same!
Either
way,
the
resulting
LTV
on
the
buyer’s
mortgage
is
the
same—less
positive
for
buyers.

Less
Cash,
More
Problems

This
is
an
important
implication.

Mortgage
loans
and
mortgage
insurance
are
priced
based
on
characteristics
of
the
loan,
including
borrower
credit
score
and
LTV—and
for
higher
LTV
loans,
the
combination
of
these
fees
means
higher
monthly
payments.
In
fact,
these
suggested
solutions
would
either
result
in
higher
interest
rates
and
higher
mortgage
insurance
premiums
for
the
life
of
the
loan
or—even
worse—make
the
borrower
ineligible
for
financing
because
of
current
rules
about
maximum
LTV
thresholds.

To
avoid
this,
you’d
need
additional
rule
changes.
But
should
we
lobby
for
looser
underwriting
standards
to
accommodate
commissions
for
very
high
LTV
borrowers?
We
learned
from
the
Global
Financial
Crisis
that
when
100%
financing
becomes
more
common,
the
threat
of
foreclosure
becomes
all
too
real.
It’s
a
bad
idea.

Alternatively,
some
of
these
advocates
think
the
GSEs,
FHA,
or
VA
should
simply
allow
the
inclusion
of
the
commissions
in
the
mortgage
amount
but
not
as
part
of
the
LTV
calculation.
Thus,
a
97%
LTV
would
not
be
adjusted
to
reflect
the
actual
98%,
99%,
or
over
100%
LTV
with
the
commission
added.
It’s
another
bad
idea,
but
not
without
precedent.

In
fact,
it
would
be
similar
to
what
is
known
as
a
rate
buyup
–
when
the
borrower
finances
their
closing
costs
in
exchange
for
a
higher
rate.
Based
on
historical
pricing,
this
“quick
fix”
would
result
in
an
interest
rate
that
was
at
least
0.25%
higher
for
every
1%
of
agent
commission
financed
by
the
buyer.
Buyers
can
do
this
today
without
a
change
in
policy
by
agreeing
to
a
higher
mortgage
rate
in
exchange
for
cash
upfront
to
pay
their
closing
costs.
By
putting
the
remainder
of
their
cash
towards
their
agent’s
commission
and
the
downpayment,
the
solution
is
feasible
but
more
expensive.

Buyers
end
up
paying
materially
less
in
interest
and
mortgage
insurance
premiums
if
the
listing
agent
agrees
to
pay
the
buyer
agent
commission
(as
has
customarily
been
the
case).
Under
the
settlement,
sellers
can
still
compensate
the
buyer’s
agent.
Furthermore,
the
buyer
will
end
up
paying
materially
less
in
interest
and
mortgage
insurance
premiums
than
if
the
buyer
pays
the
commission
out
of
pocket
and
finances
the
commission.
Importantly,
the
GSEs
and
the
FHA
published
industry
letters
in
April
2024
advising
lenders
that,
as
long
as
the
practice
of
sellers
compensating
buyers’
brokers
remains
the
local
custom,
it
is
acceptable
without
additional
financing
costs
to
the
homebuyer
or
other
restrictions!

The
custom
of
the
seller
paying
the
buyer
agent’s
commission
evolved
out
of
efficiency
gains.
I
admit
it
is
not
the
structure
that
is
obvious
if
one
were
designing
the
market
from
scratch.
Yet,
it
has
tremendous
benefits
for
homebuyers
and
sellers.
The
U.S.
housing
and
mortgage
markets
are
in
an
equilibrium
based
on
historical
norms,
reliably
quantifiable
risks,
and
a
global,
highly
liquid
market
for
GSE
and
Ginnie
Mae
mortgage-backed
securities.
These
efficiencies
allow
American
consumers
to
enjoy
the
lowest
cost
home
financing,
with
the
best
terms,
among
all
mortgage
borrowers
in
the
world.

The
purported
benefit
to
consumers
from
financing
commissions
already
exists
through
smaller
down
payments.
Moreover,
the
changes
the
activists
envision
would
cost
homebuyers,
and
potentially
sellers,
more
than
if
current
practices
remain
standing.
Faced
with
a
gaping
supply
shortage
and
high
mortgage
rates,
the
last
thing
buyers
need
is
another
hurdle.