Regulatory Body Grappling With Online Real Estate Businesses

Disputes over the regulation of online real estate businesses that have surfaced in the last few years have caused the courts to recognize the importance of the Internet to the real estate industry.

For example, earlier this year, a Federal Court in Sacramento, Calif. had to consider a California law that required Web sites to obtain a real estate broker’s license in order to publish real estate advertising and information. On the other hand, the law exempted newspapers from the licensing requirement, even if they operated a Web site.

ForSaleByOwner.com, an online service that charged a flat fee to property owners who wanted to advertise their properties for sale on its Web site, and provided real estate information on inspections, insurance and other property transfer details, challenged the California law as violating the First Amendment of the U.S. Constitution.

The Court concluded that the law was “wholly arbitrary” and violated the U.S. Constitution’s First Amendment guarantees of free speech and freedom of the press. The Court stated that there was no justification for the distinction between the two mediums, and it rejected the state’s contention that newspapers are more trustworthy than Web sites.

This was the first case to extend First Amendment protection in such a context. A more recent case, United States of America v. National Association of Realtors, is discussed below. That case challenged the use of computer technology in relation to the method by which brokers provide listing information to their customers.

Multiple Listing Service (MLS)

Most home sellers and buyers rely on residential real estate brokers to facilitate their real estate transactions. In a typical transaction, the seller agrees to pay a commission to the broker who has contracted to sell the sellers home (the “listing broker”). If the listing broker finds the buyer, the listing broker gets to keep the full commission, which is commonly a percentage of the price paid for the property. However, if another broker finds the buyer (the “cooperating broker”), the two brokers split the commission.

After the listing broker has entered into a listing agreement with the buyer, an agency relationship is formed. The broker will then submit the detailed information regarding the seller’s property to a local Multiple Listing Service (MLS), along with information concerning how the commission will be split with any cooperating broker.

The MLS lists virtually all homes for sale through a broker and thus serves as a comprehensive compilation of listings. The MLS allows brokers representing sellers to effectively market the sellers’ properties to all other broker participants in the MLS and their buyer customers.

The methods of making MLS listing available to buyers and sellers have changed as technology has evolved. Since the 1920s, when MLS first became prevalent, brokers have allowed customers to view a printed MLS book. With the advent of photocopiers in real estate offices, brokers were able to reproduce pages from the MLS book and provide them to their clients. Further advancements in technology in the form of facsimile transmission allowed brokers to “fax” MLS listings to their customers. More recently, e-mail has made the process of delivering MLS listings to customers even more efficient and cost effective.

Virtual Office Web Sites (VOWs)

With the popularity of the Internet and its introduction to the real estate arena, many potential home buyers have sought Internet sources to provide information about homes for sale.

Beginning in the 1990s, a number of brokers from the National Association of Realtors (NAR) — the leading real estate industry association in the United States — began creating password-protected Web sites that enabled potential home buyers to search the MLS database, provided they registered as customers of the broker and agreed to certain restrictions of their use of the data. These Web sites became known as Virtual Office Web sites (VOWs) and for some brokers, they have replaced the traditional practice of searching for properties for sale and then providing the information to the customer by hand, mail or fax.

This practice has become increasingly popular because VOW-operating brokers allow the home buyer to educate themselves at their own pace, while reducing or eliminating the time and expense involved in identifying relevant listings and presenting them to their customers. It has been found that these brokers spend less time educating their clients and conduct fewer home tours, which allows them to offer a discounted commission to sellers or commission rebates to buyers.

The NAR’s Policy on VOWs

Internet-savvy brokers who use VOWs came under attack by the NAR. The fear was that brokers who had Internet-based business models presented a competitive challenge to those brokers only using traditional methods of providing information to their customers.

In response to concerns voiced by certain NAR members, a policy was adopted on the use of VOWs by MLS participants. NAR mandated that all 1,600 of its member boards implement the VOW Policy by January 1, 2006. There are approximately 200 member boards that have already implemented the Policy and have received NAR’s approval of their implementing rules.

Section I.3 of the Policy contains an opt-out provision that forbids any broker from participating in an MLS if they convey a listing to his or her customers via the Internet without the permission of the listing broker. In essence, the Policy allows traditional brokers to block the customers of targeted competitors from using the Internet to review the same set of MLS listings that the traditional brokers provide to their customers.

Prior to the adoption of the Policy, a broker could choose the method by which it conveyed information to its customer, methods that included the Internet. In essence, the Policy restricts the manner in which brokers with efficient, Internet-based models may provide listings to their customers.

The policy does not require brokers to disclose to clients that their listings would be withheld from some prospective purchasers as a result of the brokers’ opt-out decision. In addition, in the markets that have already implemented the Policy, brokers have already exercised their opt-out rights and have excluded their clients’ listings from broker operated VOWs, as well as from brokers who will use password protected Web sites to provide listings to their customers in the future.

In addition, NAR member boards forbid VOW operators from displaying advertising on any Web site on which MLS listings information is displayed, while this rule does not apply to the ability of brokers to include advertisements in packages of printed listings they provide to their customers. The Policy provides for sanction and remedies for violation of the Policy, which include financial penalties and the termination of MLS privileges.

Department of Justice Fights Back

On September 8, 2005, the Department of Justice (DOJ) filed a civil action pursuant to Section 4 of the Sherman Act to enjoin the NAR from maintaining and enforcing its Policy (United States of America v. National Association of Realtors). The DOJ argued that the Policy suppresses technological innovation, discourages competition on price and quality, raises barriers to entry and harms consumers.

The DOJ presents a convincing argument in favor of technological innovation. With the increase in the use of the Internet in business transactions, the time has come for real estate licensing and regulatory bodies to embrace technology. Rather than fighting the inevitable, they should incorporate technology into industry so as to conserve resources and encourage competition while at the same time, adopting measures to safeguard the public.

Whatever the outcome of this case, it is sure to have broad implications on e-commerce and the ability of industry regulatory bodies to maintain their traditional grip on their industry when their members are doing business online.