Why this article is important: The Designated Officer (DO) for a corporation is way more than a license number on a form needed to qualify the corporation for a broker license. The DO has specific duties to maintain corporate and employee compliance with Real Estate Law, explained here.
Supervisory duties for agent compliance
The DO is responsible for supervising and controlling the activities of licensed and all other employees of the corporation to ensure compliance with Real Estate Law. [Calif. Business & Professions Code §10159.2(a)]
Further, the DO supervisory responsibility may be assigned to another broker-officer, as an additional DO, by a resolution adopted by the corporation’s board. The broker-officer accepting the assignment must be a licensed broker and an officer of the corporation, based on the separate submission of a Corporate License Application for each officer added as a DO. [See RE 201]
When DO duties are assigned, the DO needs to file a certified copy of the board of directors’ resolution assigning the supervisory responsibility with the Real Estate Commissioner within five days after the resolution is adopted. [Bus & P C §10159.2(b); (c); See RE 210]
The supervision manual, guidelines and guardrails
Reasonable supervision by the DO includes establishing a manual of written policies, rules, procedures and reports employees are to comply with. The supervision manual enables the DO to review and manage:
- transactions and employee conduct requiring a real estate license;
- documents materially affecting the rights or obligations of clients in transactions;
- the filing, storage and maintenance of documents related to licensed real estate services rendered;
- the handling and documentation of trust funds;
- advertisement of real estate services requiring a license;
- employee’s knowledge of anti-discrimination, fair housing and agency laws; and
- reports on the activities of employees. [California DRE Regulations §2725]
Related video:
The DO answers only to the corporation and the DRE
To whom is the DO’s duty of supervision owed?
Consider a real estate agent employed by a corporation licensed as a real estate broker with, of course, a designated officer (DO). The agent purchases a real estate development in need of significant repairs funded by a mortgage. The agent defaults on the mortgage and needs additional funds to complete the project.
The agent solicits a private lender for a loan to fund completion of the improvements. The solicitation and negotiations with the lender are conducted by the agent under the name of the corporate brokerage, not as a principal.
The agent’s conduct acting on behalf of the corporate broker in the transaction creates an agency relationship between the corporate broker and the lender. [Calif. Business & Professions Code 10131(d)]
The agent mis-represents the amount of equity in the property available to secure the amount of the second lien. Further, the first lien mortgage holder foreclosing on the property also is not disclosed, material facts for the mortgage origination.
Unaware of the agent’s fraudulent claims, the private lender agrees to fund the origination negotiated with the agent. Later, the first lien holder forecloses on the property, leaving the lender’s note unsecured.
The DO did not participate in the transaction, nor did they authorize it.
Consequently, the lender is unable to recover their losses by foreclosing on the property, since the first lienholder’s foreclosure sale wiped out the lender’s security interest on title to the property.
The lender seeks to recover the lost money from the DO individually, as well as the corporation. The lender claims the DO failed to supervise the agent who rendered services in the mortgage lender origination transaction on behalf of the corporation, resulting in the lender’s losses due to their agent’s fraudulent representations of title conditions and property valuation.
The DO claims they owe no duty to the lender, since the DO was not the agent’s employer and did not participate in the transaction. Thus, the DO argues the lender is a third party to whom the DO owes no fiduciary duty.
Here, the DO’s duty of supervision is owed the corporation which employed the DO to supervise — not third parties such as the private money lender. To be held responsible, the DO needs to actively participate in the fraudulent action. They cannot be held liable to a third party based solely on their failure to supervise agents of the corporation. [Sandler v. Sanchez (2012) 206 CA4th 1431]
While the DO may not be held liable by a client of the corporation or other third party, the California Department of Real Estate (DRE) may discipline the DO for failing to supervise their employees for activities within the scope of their employment as an agent of the corporate broker. [Bus & P C §10177(h)]
Potential disciplinary measures against a DO include:
- suspension or revocation of the DO’s individual broker license or the corporation’s license;
- delayed renewal of the DO’s individual license or corporation’s license; or
- denial of the issuance of a license. [Bus & P C §10177]
To maintain compliance, the DRE recommends the DO create a system for routine monitoring for their employees’ compliance with the corporation’s policies and with Real Estate Law in general.
Editor’s note — While an employing broker operating under a sole proprietorship has the same responsibilities and duties as a DO for a corporation, the liability shield exists only for the DO of a corporation.
Related article:
DRE Hot Seat: The buck stops with the designated broker — always
DO reporting duties owed the DRE
Designated Officers must comply with various reporting duties they owe to the DRE.
The DO must notify the DRE upon the hiring and termination of real estate licensees within five calendar days of the event. The DO must also notify the DRE when the business address of a licensee employed by the corporation is changed, such as a change in branch address. [Bus & P C §10161.8]
The DO notifies the DRE by submitting RE 214 for a sales agent, and RE 215 for a broker-associate. The DO may also use the eLicensing System to notify the DRE of hiring, firing and address changes.
When a change in corporate officers occurs, the DO needs to file a new Corporation Background Statement to notify the DRE of the change. The same form is used to notify the DRE when a change takes place with any individual involved in operating the corporate business when the individual owns or controls more than 10% of the corporation’s shares. [See RE 212]
When the corporation opts to use a fictitious business name to conduct its brokerage business, the DO first applies for a Fictitious Business Name Statement (FBNS) at their local county clerk’s office, filed on behalf of the corporation.
Then, the DO submits to the DRE the:
- FBNS along with the Corporate License Application, when applying for a new corporate license; [See RE 201] or
- FBNS along with the Corporation Change Application, when adding the fictitious business name to an existing corporate license. [See RE 204a]
Any marketing materials — i.e., business cards, print or electronic media and “for sale” signs — using a fictitious business name or team name need to conspicuously display:
- the individual licensees’ names and license numbers; and
- the identity of the employing broker (the DO or the broker officer assigned supervisory responsibilities) as prominently as the fictitious business name or team name.
Further, the DO must maintain client files for three years from the date a transaction is closed (or, when the transaction is not closed, from the date the representation agreement was signed) copies of all records, including:
- real estate agreements;
- canceled checks;
- trust account records; and
- any other documents executed by or obtained by the broker in connection with a transaction for which a real estate license is required.
By maintaining accurate and complete records, the corporation is prepared for a DRE audit. Prior to a DRE audit, the corporation is required to make their books, accounts and records available for examination and copying by the DRE’s representative. [Bus & P C §10148(a)]
Related article:
Rent-a-broker scheme
One of the quick and dirty ways to become a DO involves a rent-a-broker scheme. This ploy involves a broker collecting a fee — essentially leasing their license — in return for the corporation’s use of their name and license. However, the relationship is face-value only, with the rent-a-broker providing zero diligence to fulfill the supervisory duties now bound to them.
Participating in a rent-a-broker scheme exposes the DO to disciplinary action by the DRE. DOs are to ensure strict standards are followed when conducting all aspects of real estate brokerage activities. For absentee DOs, this is simply impossible.
Editor’s note — When a corporation licensed as a broker employs the services of an office manager to manage day-to-day aspects of the brokerage services, the DO assigned compliance duties retains overall supervisorial responsibility. Here, the DO as the ultimate authority with responsibility for all employees’ actions related to real estate law. Thus, the DO is required to routinely review the actions of the office manager, and in turn, each employee. [See RPI Form 510]
Even when DO duties are assigned, it remains the DO’s responsibility to ensure the corporate brokerage operation is in compliance with real estate law. [Bus & P C §10159.2]
Related article:
Brokerage Reminder: Branch office managers share responsibility for oversight and management
Other common DO errors
Some of the common violations the DRE encounters during routine and investigative audits of brokerages include issues regarding:
- record retention;
- fictitious business name use;
- mortgage loan disclosures; and
- trust funds, specifically:
- maintaining trust fund records (or lack thereof);
- reconciliation of trust accounts;
- trust fund shortages;
- trust fund handling;
- trust account withdrawals; and
- co-mingling.
A broker operating independently or employing agents and broker-associates maintains a record of all trust funds received and deposited for each separate trust fund transaction, called ledgers. Entries in the trust fund ledgers are made in columnar form and listed in chronological order as they take place. All trust funds deposited in a bank trust account are entered in the trust fund ledger identifying who owns the funds. [DRE Regulation §2831; see DRE Form RE 4522]
The broker reconciles the total of all separate money transactions in the ledgers for owners of the funds with the bank account balance for all trust funds received and paid out. The reconciliation is at least once a month, unless no bank account activities occur. This accounting confirms the balance of all the separate trust fund ledger records is equal to the cash balance in the bank trust account. [DRE Reg. §2831.2; see RPI Form 544-1]
A trust fund shortage occurs when the balance of a trust fund bank account is less than the total sum of trust funds held for owners in their separate ledgers. Trust fund shortages are generally the result of:
- failing to record a disbursement;
- understating the amount of a check disbursed;
- overstating the amount of a deposit on a separate owner or ledger.
These simple mistakes lead to the broker’s ledgers showing more funds available than are actually in the trust fund bank account. When it comes time to disburse an owner’s funds, brokers pay out what is shown in their separate individual ledgers, instead of reviewing the actual funds available in the bank trust fund account. Thus, the payout is greater than the available funds due to a trust fund shortage.
When handling trust funds on deposit from multiple transactions, a DO is required to obtain written consent from every owner of funds in the account prior to any disbursement that reduces the balance of the account to less than the trust funds held for all trust fund owners, sometimes called beneficiaries. [DRE Reg. 2832.1]
Within three business days of receiving trust funds on behalf of another, the DO is required to place the funds received:
- into the hands of the owner of the funds;
- into a neutral escrow depository; or
- into a trust fund account. [Calif. Business and Professions Code §10145; DRE Reg. §2832]
Withdrawals from a trust fund account may be made only with the broker’s signature or, when specifically authorized in writing by the broker, by:
- a salesperson employed by the broker;
- a broker-associate employed by the broker [See RPI Form 505 and 506]; or
- an unlicensed employee of the broker with fidelity bond coverage equal to or greater than the maximum amount of trust funds the employee has access to at any time. [DRE Reg. §2834; see RPI Form 507]
Co-mingling of trust funds is an unlawful activity which occurs when a client’s trust funds are placed in an account which also holds funds of the corporation or the DOs. This mixing of funds in the same account not only makes accounting difficult, but violates the fiduciary duty owed to clients.
Editor’s note — While a broker may not commingle their funds with the funds of others which they receive and hold, they are permitted to deposit up to $200 of their own funds for account maintenance in the trust account. [Bus & P C §10145; DRE Reg. §2835]
Related article:
Further, a broker handling a mortgage loan origination is required to prepare and hand the borrower a mortgage loan disclosure statement within the earlier of either:
- three days after receipt of a completed mortgage application; or
- three days before the borrower becomes obligated on the note. [Bus & P C §10240]
The broker/officer maintains completed copies of the mortgage disclosure in their files to ensure DRE compliance.
A DO who regularly audits their own supervision and record-keeping practices will find themselves ahead when a DRE auditor comes knocking. DO’s start a self-evaluation of their real estate business activities by using the DRE’s Compliance Checklist. [See RE 540]
