Brokers Branch Out Diversify and Generate Revenue
Real estate brokerage firms may be able to boost their bottom line by forming Affiliated Business Arrangements (AfBAs) with real estate settlement service providers. Take a look at the experiences of several brokers whose firms have entered into AfBAs.
The third time was the charm for Greg Margagliano. A broker with Keller Williams Realty of South Tampa, Margagliano wanted to improve the title insurance service for his customers. In 2003, Margagliano acquired a small ownership stake in a title company. The arrangement lasted only one year when the two attorneys who had a majority stake in the title company bought out the shareholders because they wanted more of the profit themselves, he says.
Undaunted, Margagliano tried again. He entered another AfBA in 2004, only to have a similar scenario unfold six months later.
Those two experiences taught Margagliano a valuable lesson in the world of AfBAs: Choose your partners wisely.
“Align yourself with someone who has been in business a long time,” he says. In real estate markets like Florida, new companies spring up all the time, and it’s important to find ones with a proven track record, he says.
Margagliano finally found that stability with Florida Title Insurance Agency, a company he says provided excellent service when he used it in the past. Margagliano met with company President Byron “Gibbs” Wilson Jr., who also founded Tampa-based Alpha-Omega Title in 1983, and was offered a partnership.
Margagliano says he owns shares in the company, but the financial incentive from monthly dividends is not the main benefit of the arrangement. Any time an issue arises, he says, he can call Florida Title and have it taken care of immediately.
That advantage was echoed by other firms such as John R. Wood Realtors® of Naples. This brokerage has AfBAs for both title and mortgage services. “We feel that it gives us a little bit of control over the transactions,” says company President Phil Wood. “Being part owners, we have some power over getting problems resolved. And clients seem to like having everything under one roof.” Trends
For much of the past decade, real estate brokerages have been building strategic partnerships with mortgage, title, homeowners’ insurance, home warranty and other companies or have been setting up their own subsidiaries to handle these functions. It’s a way to bolster revenue through diversification and to better serve customers in a competitive market. In essence, it helps bring business through the door.
“Just having a more diverse revenue stream is considered more sound financially,” says Sue Johnson, executive director of the Real Estate Providers Council (RESPRO), a nonprofit trade association that works to create a business and regulatory environment that benefits real estate service providers. “A lot of our members tell us [that] they enter into financial services [because] it increases the accountability of the service. They can assure their closings are going through. They have a greater ability to control the quality of that transaction to assure it goes to closing on time without additional costs.”
Surveys have shown that more than 80 percent of homebuyers prefer to buy their services from one source because of the convenience and accountability, Johnson says. Some 26 percent of title transactions and 25 percent of mortgages were handled through affiliated businesses, according to the most recent study by CapAnalysis, she says.
Johnson says it’s not known how many AfBAs exist across the country. However, a 2004 study of the top 350 real estate brokerage firms in the country, conducted by consulting firm Weston Edwards & Associates, revealed that 88 percent offered mortgages through an AfBA, compared with 72 percent in 1999. The consulting firm also found that the smaller companies, ranked between 251 and 350, had the biggest gains having increased mortgage services from 56 percent to 87 percent.
The top 50 real estate brokerage firms increased their participation in the title insurance business from 59 percent in 1999 to 69 percent in 2004, and in other closing services from 16 percent to 46 percent. The smaller firms increased their participation in the title business from 24 percent in 1999 to 55 percent in 2004, and in other closing services from 2 to 16 percent. The Legalities
Congress enacted the Real Estate Settlement Procedures Act (RESPA) in 1974 in an effort to, among other things, provide consumers advance disclosures of settlement charges and to prohibit illegal kickbacks and excessive fees in the homebuying process.
At that time, RESPA failed to address referrals of business from one settlement service provider to another affiliated entity. Instead, Section 8 of RESPA simply prohibited any person from giving or accepting any fee, kickback or thing of value for referrals of settlement service business related to a federally related mortgage loan and prohibited any person from giving or accepting any part of a charge for services that were not performed by that person.
In 1983, Congress amended RESPA to include a Controlled Business Arrangement exemption to Section 8 (which was subsequently renamed the Affiliated Business Arrangement exemption) and later the Department of Housing and Urban Development (HUD), the federal agency that is responsible for promulgating regulations and interpreting RESPA, revised its regulations to address AfBAs.
Under RESPA and its accompanying HUD regulations an AfBA is defined to mean: “An arrangement in which (A) a person who is in a position to refer business incident to or a part of a real estate settlement service involving a federally related mortgage loan, or an associate of such a person, has either an affiliate relationship with or a direct or beneficial ownership interest of more than 1 percent in a provider of settlement services; and (B) either of such persons directly or indirectly refers such business to that provider or affirmatively influences the selection of that provider.”
RESPA now provides that an AfBA is not a violation of section 8 so long as three requirements are met. This three part safe harbor test requires: 1) written disclosure be made to the person who is being referred to the affiliated business (the format of the disclosure is set forth in the federal regulations); 2) no required use of the affiliated business; and 3) the only thing of value that is received from the AfBA is a return on ownership interest (e.g., bona fide corporate dividends or partnership distributions paid in the ordinary course of business) or payments otherwise permitted under the statute.
“We’re always very careful to disclose to our clients that our company has a financial arrangement with these businesses and that they do not have to use them,” Wood says.
But not everyone plays by the rules. HUD, citing concerns with AfBAs, cracked down on the industry for arrangements designed to hide illegal referral fees. The agency has been aggressive in going after kickbacks with the belief that “sham” operations increase everyone’s cost of buying a home and reduce the quality of service.
“That [crackdown] is welcomed by the legitimate players,” Johnson says. “If you run a legitimate business, you want to encourage more enforcement for those who don’t do it right.”
With that backdrop, real estate firms must exercise caution in the regulatory environment and seek legal advice before entering an agreement, Johnson says. Setting It Up
For small- to mid-sized real estate brokerage firms that don’t have the capital or volume of business to establish a wholly owned subsidiary, partnering with a local, regional or national lender or title company is a good way to break into AfBAs, Johnson says.
Ann Stickel, vice president of affiliated services for Michael Saunders & Co. in Sarasota, has worked on both sides of the spectrum for her current firm and previously with Wells Fargo. She says the keys to a successful relationship are to do your homework, get to know as much as possible about the potential partner and identify any pitfalls.
“Don’t make a snap decision,” says Stickel. “You have to respect and feel comfortable with your partner.”
John R. Wood Realtors began entering into AfBAs almost 10 years ago, says Wood, but the businesses the firm partnered with have changed over time. Wood says they currently have arrangements with Southview Mortgage and First Boston Title.
Wood says that, in seeking affiliate arrangements, his firm first looked for financial stability in an affiliate and then for “someone who was totally locally controlled, so if there were any problems, we could sit down face to face to solve them.” That alone eliminated a lot of companies from consideration.
“We also wanted to make sure they fit into our culture—share the same values we have as a real estate agency,” Wood says.
In setting up the affiliations, Wood hired legal consultants to ensure that the firm structured the agreements correctly and that they complied with Florida law and RESPA and its accompanying federal regulations. What Does the Future Hold?
Johnson says that as RESPRO members are gaining more expertise in offering diverse services, they are exploring other opportunities for partnerships or subsidiaries.
But not all brokers think this is the best time to pursue AfBAs. Kevin Kennelly, with Signature Realty Associates in Valrico, thinks the current market climate is not conducive to AfBAs.
Kennelly, who has an AfBA with Florida Executive Lending, agrees that these partnerships can generate better service, but for now he thinks brokers would be better served concentrating on their own specialty.
“As things have slowed down, so did they [the affiliated businesses],” he says. “In this market, if you’re a broker … I’d be more interested in focusing on developing your own business rather than these ancillary businesses. … If you’re good at real estate, then focus on what you’re good at. Don’t dilute your time into several different ventures.”
Wood says he thinks that over the past 12 to 24 months the trend toward AfBAs has cooled. Because of a decline in construction, for example, some builders have soured on the idea of AfBAs, “and I’m not sure they’re going to want to jump back into it,” he says.
But for companies like his, Wood says it’s still a good strategy. However, Margagliano says he hasn’t pursued a mortgage affiliation because he has enough on his plate. His team, which includes three other sales associates, produces $25 million to $30 million in sales a year. If you’re producing such volume, don’t worry, he says. Businesses will contact you about becoming partners. “They don’t sell shares to [just] anybody,” he says. “You have got to be producing on a consistent basis.”
As for his early bad experiences with AfBAs, Margagliano says he has no regrets. “It worked out in the end.” And, with careful research and planning, your AfBA can work out as well. Buck Wargo is a Las Vegas-based freelance writer.