Developer kickbacks: The ethics and the law

BROKERS ARE often told about the importance of referral relationships and the need to diversify their revenue base and tap into new markets.

Indeed, successful brokers will frequently cite referral relationships and partners as key components of their success in a tough market.

Builders and developers are often up there with real estate agents, accountants and financial planners when brokers discuss fruitful strategic business partnerships.

Yet relationships with property developers are potentially problematic and the industry remains split on whether brokers should accept fees from property developers.

AN INDUSTRY DIVIDED

The Adviser ran an online straw poll which highlighted just how divisive this issue is. The poll asked: ‘Is it ethical for brokers to accept a fee from developers?’.

The results were almost split down the middle with 50.6 per cent of brokers saying ‘no’, and the remaining 49.4 per cent saying ‘yes’.

The poll attracted over 300 votes, and sparked heated debate about ethical practices and industry implications.

wHeregroup’s Todd Hunter says it is only ethical for a broker to receive a kickback for recommending a property development to clients and setting up the sale if the kickback or commission comes out of the developer’s profit margin – and does not get added onto the property sale price.

“If you add a fee onto the property price, it falsely increases the median house or unit price and it purely rips investors off,” he says.

Troy Phillips, director of First Point NB, says that the industry remains split 50/50, but he thinks the industry has moved past the worst practices in this area.

“I’d hate for us to go back to the dark old days,” he says. “A family up on the Gold Coast on a holiday, go for a wander to buy an ice cream and 20 minutes later they get nabbed by a property spruiker and end up with four chocolate ice creams, a line of credit on their home, and two investment properties which have inflated contracts and no prospects of capital gain in the short term.

“No one wins in the long run. Less and less of that exists these days I hope.”

POTENTIAL PROBLEMS

Gadens partner Jon Denovan says that brokers should steer clear of dual pricing arrangements.

He says there have been cases where discounts aren’t passed onto buyers – and conveyancers, accountants, developers and brokers work together to rip off the buyers.

Mr Hunter says that there is a temptation to blame developers for this practice, but brokers should remember that their involvement carries consequences.

“It’s not just the developers creating this practise,” he says. “Some buyers’ agents, mortgage brokers, accountants, financial planners, property companies and marketing companies who do the deals with them add their fee on top.

“Yes the developer agrees, as they simply want the product sold, but the immoral activity is conducted by those just listed, as well as the developers.”

He says that real issues can arise when a client sues the developer “because any third party who earned a commission from the transaction also becomes liable to be sued as well.”

Yet, Mr Denovan says this is very rare and most people in the industry act legally and ethically. He cites Mirvac and LJ Hooker as examples of companies which cater to property and finance needs and do so ethically and legally with “very high standards of independence”.

For those who are hiding fees or discounts from consumers, Mr Denovan says the consequences are very real.

“I think it’s the sort of thing ASIC would like people to lose their licence for. I don’t think there’s any middle course about that. I think ASIC and the MFAA would think that they’re not appropriate people to be in the industry.”

Mr Denovan also says that from ASIC’s perspective, the fee may not be the biggest issue.

“The critical issue from ASIC’s point of view would be the fact that there is this relationship under which there’s an unstated arrangement that the broker’s going to ensure the deal goes through.

“That’s really not that the consumer is entitled to from a broker. They’re entitled to independence. The broker should be worrying solely about the customer and not his pocket.”

ACTING ETHICALLY AND LEGALLY

For those brokers who do want to work with property developers, but are wary of any wrongdoing, Mr Denovan says it is important to write things down.

“Because we work in a regulated world now, what we do sometimes is not quite as important as what we write down,” he says. “We need to startby writing down our conflict policy.

“We need to write down details of this relationship and the steps we take to make sure the consumer is not disadvantaged.”

He says you then need to follow that process and be able to produce documents and evidence to ASIC.

Mr Phillips agrees that disclosure and written processes will help brokers avoid any legal and ethical grey areas.

“If the fees are fully disclosed in verbal and written form prior to the exchange of contract, and again prior to settlement – and the transaction is completed in a professional manner, then I don’t see a problem.”

Mr Phillips doesn’t have any formal referral relationships with developers which involve referral fees or volumes, but has worked with developers in the past.

“We have dealt with developers on two small projects. We knew the developer and had existing clients who wanted properties in the new development.

“We put the parties together and ensured that any savings on the real estate sales commissions were reflected in a reduced purchase price on the deal.”

Mr Hunter says that the Real Estate Institute believes a flat fee structure is the fairest option because percentage fee structures could encourage the “introducer” to push their client into a more expensive property to earn a bigger commission.

wHeregroup however, charges a flat fee for service. “It’s transparent and we always state that we do not receive referral kickbacks from developers, real estate agents, property managers, building and pest inspectors or tradesmen.

“Occasionally though, a real estate agent will buy me a beer.”

Mr Phillips says that fee structures should reflect fair value for the broker, and the borrower.

Yet, he says the most important factor in brokers having profitable relationships with developers is disclosure.

“Do the right thing – disclose, and disclose again. We all know who the shonks are, and eventually they fall.”

If a broker is to receive a kickback for referring a client to a developer, which leads to a sale, Mr Denovan says that kickback must come out of the developer’s profit margin.

“And why would the developer pay that? Because they’ve saved on advertising and they’ve saved on real estate agent commissions.”

He says these relationships can exist on the right side of the law “so long as it’s genuine and there’s no increase in price.”

“It’s a bit like a broker selling an insurance policy. If you sell them the right insurance policy, and you get a bit of commission, that’s fine. If you get paid a commission from the insurer, so long as the client isn’t paying more than the premium would normally be, then everything is fine.

“It’s exactly the same with property. But as soon as it’s the wrong property for someone, or the price has been increased because they bought it through you – then that’s where the trouble starts.”