A bad habit to kick

Although kickbacks — the practice of accepting referral fees from third-party service providers like title insurers or mortgage lenders — are prohibited under the Real Estate Settlement Procedures Act (RESPA), they continue to be one of the most pervasive RESPA violations.

Referral fees become unlawful kickbacks when they are involved in a fee-generating home sale. Typically, a broker or agent earns fees as a result of services rendered — here, the only service rendered in exchange for the referral fee is, well, the referral.

But why are kickbacks against the law, anyway? Aren’t licensees just getting a cut for sending valuable business to another company?

Sure — but they’re really getting two cuts for the price of one. RESPA expressly precludes agents from collecting a second fee for no or nominal services when splitting the fee with another service provider in the transaction. The law does not consider recommending a service provider a tangible service deserving of a fee.

An unlawful kickback occurs when:

  • a real estate licensee accepts a fee in a transaction for real estate services rendered to a client;
  • the licensee refers the client (or other participant) to a provider of a service related to the same real estate transaction;
  • the client pays a separate fee to the referred provider for the service; and
  • the provider pays a cut of that fee, fixed or percentage, to the licensee.

Here, the real estate licensee has been paid twice without providing any additional services in the transaction. Although the fee went through another service provider, the client has still been charged twice.

The RESPA rule does not prohibit fee-splitting, i.e., a broker receiving a fee as a cooperating broker for initially referring the buyer to the seller’s broker (or vice versa) in a sales transaction.

Diving into RESPA

The problem is that referral-steering a client as part of an existing fee-paying transaction is not a separate service rendered — it is an inclusive service already owed to the client to protect them in the sales transaction and best represent their interests.

Payments between third-party service providers and brokers during the course of a sales transaction are exchanged for services rendered. While an agent in a transaction may in rare cases be paid for services otherwise performed by the provider, the agent may not be compensated for a simple referral.

Referral fees are not the only form of kickback which violates RESPA. Third-party service providers commonly offer “indirect kickbacks” in exchange for referrals, including:

  • entry into a “referral contest” drawing for referring a lead;
  • paying for sporting events or theater tickets;
  • throwing a party for anyone who referred business;
  • paying admission to a real estate seminar or course;
  • paying rent for space in a broker’s office not required for the provider to do business; and
  • paying for real estate advertising.

However, promotional and educational activities are allowed when:

  • they are not conditioned on the referral of business; and
  • they do not involve the payment of expenses (rent, IT services, supplies, etc.) incurred by a broker or agent in a position to refer business. [12 Code of Federal Regulations §1024.14(g)(vi)]

For another classic example of an indirect kickback, see the “closed office.” Here, a broker does business only with a “preferred” lender, escrow or title company, banning other service providers from competition, and the broker and preferred provider agree to a specific kickback.

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Some lenders will offer an additional fee to a broker in a transaction when the broker renders mortgage origination services on behalf of the lender. However, multiple broker services need to be performed by separate individuals under the broker to receive two fees on the same transaction. An individual who represents the client in the real estate transaction is barred from receiving a second fee for originating the client’s mortgage in the same transaction. [12 Code of Federal Regulations §1026.36(d)(1)]

RESPA also covers fee-splitting and the payment of referral fees in a sales transaction involving a consumer mortgage origination. Here, a broker acting as a transaction agent for a fee is prohibited from giving or receiving a referral fee. [24 United States Code §2607(a); 12 CFR §1024.14(b)]

However, this caveat comes with two exceptions:

  • referral fees paid to or received from other brokers not in the broker’s employ, unless that broker is directly involved in processing or originating the mortgage [12 CFR §1024.14(g)(1)(v)]; and
  • fees paid by the employing broker to their licensed sales agents, broker associates or unlicensed finders, unless the recipient is connected with the mortgage transaction. [12 CFR §1024.14(g)(1)(vii)]

Any person who violates RESPA may be:

  • fined up to $10,000;
  • imprisoned for up to one year; and
  • held liable for three times the amount paid for the settlement service to the person charged for the settlement service. [12 United States Code §2607(d)]

RESPA violations are often combined with other private lawsuit claims such as antitrust violations, exposing violators to additional civil liability. Accepting kickbacks often leads to income tax evasion, as unlawful earnings are seldom reported as income.

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The votes are in: Undisclosed referral fees are unlawful kickbacks

Broker to broker

Referral fees are allowed between two brokers only when the broker receiving the referral fee is not involved in providing a service in the underlying home sales transaction.

Compensation for a referral permitted between brokers under RESPA includes:

  • payments to the buyer’s broker by the seller’s broker, and referral arrangements between real estate agents and brokers;
  • payment to any person of a bona fide salary or compensation or other payments of goods or facilities actually furnished or for services actually performed, such as finders employed by a broker; and
  • an employer’s payment to their own employees for any referral activities. [Calif. Business & Professions Code §10177.4; 12 USC §2607]

Although RESPA allows certain fee-splitting activity, the California Department of Real Estate (DRE) limits fee-splitting to:

  • payments between brokers (who then may split the fee with their employees); or
  • payments by a broker to their employees, licensed or unlicensed. [Bus & P C §§10130 et seq.]

Accordingly, a licensed salesperson may only receive a fee or other compensation for acts which require a DRE license when they are employed by a broker.

Agents may not accept a fee or other benefit from any person other than their employing broker. Agents are also prohibited from paying a fee to any other broker or agent without first directing the payment through the agent’s employing broker. [Bus & P C §10137]

Brokers and their agents always need to notify their clients of the dollar amount of any compensation received from service providers related to the real estate transaction in which their client is involved. Non-disclosure of this compensation may result in their client recovering all fees paid, as well as license suspension or revocation. However, disclosure doesn’t excuse or legalize RESPA violations — unlawful kickbacks are unlawful no matter who knows about them. [Bus & P C §10176(g)]

The bottom line? A broker may only be paid a referral fee when the broker earns a fee. And a broker earns a fee only when they perform a tangible service related to a transaction — other than the referral itself.

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This article was originally published September 2015, and has been updated.