This article explores the relationship between a borrower and loan broker.

Inducing a borrower to employ a broker

A broker (or sales agent) may not induce a borrower of a real estate loan or a seller of a trust deed note to retain the broker’s services by representing the existence of a lender or investor willing to make the loan or purchase the trust deed note when one does not exist.

For example, a real estate owner contacts a broker who arranges trust deed loans.

The owner informs the broker of the loan terms he will accept and asks the broker if he knows of a lender willing to make such a loan.

The broker does not know of a lender who would be willing to make the loan sought by the owner, but he believes he can locate one.

However, to persuade the owner to employ him, the broker assures the owner he knows of lenders who will make this type of loan. The owner is advised the broker will proceed to arrange the loan with one of these lenders if the owner will enter into a loan broker listing agreement. [See first tuesday Form 104 accompanying this article]

Relying on the broker’s representation that a lender exists who is willing to make the loan, the owner signs the listing.

The broker’s attempts to locate a lender are unsuccessful.

The owner later discovers the broker never knew of a real estate lender who would originate a loan on the borrower’s terms.

The owner complains to the Department of Real Estate (DRE). The owner claims the broker had a duty to honestly represent the fact that no lenders existed at the time the owner employed the broker.

The broker’s false claim that a lender existed who would make the type of loan the owner was seeking is cause for the DRE to revoke or suspend the broker’s license. [Calif. Business and Professions Code §10177(d)]

Also, the broker could be fined up to $10,000 or imprisoned up to six months, or both. [B & P C §10185]

No “free services” under a listing

A broker may not represent a specific service he provides for a client as “free” when the broker knows he will be compensated for the service by charging a fee on the entire transaction.

For example, a broker wants to induce a seller of real estate to enter into an exclusive right-to-sell listing.

The broker offers “free advertising” of the seller’s real estate, without any charge to the seller. Believing the advertising incentive is an extra service, the seller enters into an exclusive listing agreement with the broker.


A broker cannot represent as “free of charge” a brokerage activity that is included as part of the services he must perform as a matter of being diligent.

However, a seller’s broker is duty bound to advertise the seller’s property no matter who pays the advertising costs. Advertising is part of the diligence required of a broker when marketing the property under an exclusive right-to-sell listing.

The broker, by using the “free advertising” gimmick, has represented as free an activity which a diligent broker is required to provide for a client. The service is not free, but offered in expectation of compensation under the listing. [Coleman v. Mora (1968) 263 CA2d 137]

The broker’s bargain under an exclusive listing agreement consists of fulfilling one essential duty – the broker must diligently pursue his client’s real estate goals.

Also, the broker must take reasonable steps to gather and analyze all facts concerning the physical condition of the property, its title conditions, operating data and location.

The broker must evaluate and disclose to his client the information he has gathered about the property.

The broker performs numerous activities while exercising diligence and advising his client about the implications of a transaction, including the financial, legal, tax and risk aspects the client might encounter in the transaction. The broker is compensated for his diligence under the listing agreement.

Thus, the broker cannot represent as “free of charge” a brokerage activity he must perform as a matter of being diligent in a transaction on which he is paid a fee.

Advance fees must be accounted for before disbursement

The broker cannot withdraw funds from the trust account until five days after he accounts to the borrower for the services he has performed.

 A broker arranging a real estate loan as the agent for a borrower must account to the borrower for any advance fees received prior to the disbursement of the loan funds.Editor’s note An advance fee is a fee received by a broker for soliciting borrowers or lenders to arrange or sell real estate loans before brokerage services are performed. The rule also applies to real estate sales transactions. [B & P C §10026]

However, advance fees must be distinguished from advance costs!

Advance costs are deposits handed to the broker to cover out-of-pocket costs incurred on behalf of the depositor while performing brokerage services, such as a loan appraisal for a borrower or ordering termite work done for a seller.

For example, a borrower seeking to purchase nonresidential real estate employs a broker who agrees to help him obtain a loan for a fee.

The broker tells the borrower the fee must be paid in advance as compensation for his initial time spent preparing the loan package and negotiating with the lender.

The borrower writes a check to the broker for $1,000, indicating on the check the money is an advance fee for services to be rendered in preparing and arranging the loan.

Instead of depositing the check into a trust fund account, the broker deposits the client’s money into his general business account. The broker believes the funds are his to spend as he sees fit.

Later, the borrower, having received no billing or accounting, demands an accounting of the funds. The broker is unable (or unwilling) to provide the borrower with any documentation as to what services were rendered, how much time was spent or when and to whom the funds were disbursed.

Further, the broker cannot even prove the funds were spent on services rendered on the borrower’s behalf.

The borrower employed the broker to obtain a loan and was requested to pay a fee in advance before the broker would render any services. Thus, the broker received a deposit for a fee he had not yet earned and failed to place the deposit into his trust account for disbursement after the fee was earned. The broker also failed to account for time spent working on the borrower’s behalf before placing the funds in his general account. [Nelson v. Department of Real Estate (1984) 161 CA3d 939; B & P C §§10026; 10146]

Any fees received by the broker before services are performed must be deposited into the broker’s trust account, separate from the broker’s own funds. [B & P C §10145]

The broker must use a DRE-approved advance fee form or obtain DRE approval of the advance fee form used. [B & P C §10085]

After depositing the funds into the trust account, the broker can make withdrawals from the deposit. However, a withdrawal can only be made to compensate the broker for the services he has rendered in arranging the loan for the borrower. [B & P C §10146]

Further, the broker cannot withdraw funds from the trust account for fees he has earned until five days after he accounts to the borrower for the services he has performed in arranging the loan. [B & PC §10146]

Also, the broker is required to make a full accounting at least every calendar quarter which includes amounts disbursed, payees, dates, etc. for the withdrawal and expenditure of any advance fees deposited in the trust account. [B & P C §10146]

A broker’s failure to account to his client for advance fees paid for arranging a real estate loan may result in the suspension of his license. The broker is also exposed to liability to the borrower for treble the borrower’s damages for misappropriation of trust funds. [Burch v. Argus Properties, Inc. (1979) 92 CA3d 128]

Accurately represent loan terms to the borrower

A real estate licensee must make a meaningful disclosure about the essential terms of a real estate loan when soliciting a borrower or arranging a loan with a lender.

For example, a real estate broker advertises he can arrange loans with a low monthly payment schedule. In fact, loans of this type are not available.


The broker must disclose all facts of the loan transaction which might affect the borrower’s decision to participate in the transaction.

A borrower, seeking a loan with the low monthly payment schedule advertised by the broker, retains the services of the broker to arrange such a loan.

The borrower asks specific questions of the broker concerning the interest rate, late charges, the balloon payment on final payoff and closing costs.

The broker tells the borrower the balloon payment will be “small” and misrepresents the interest rate and the day of the month on which late charges are incurred. The broker provides the borrower with “approximations” of the closing costs which are significantly lower than the true closing costs.

The broker also fails to accurately disclose other important loan aspects, such as the monthly payments are interest only, rather than an amortized reduction of the principal, or that late charges are equal in amount to the monthly interest payment.

Further, the financial disclosure statement is lengthy and contains complex wording which is not understood by the borrower. Instead of reading the disclosure statement, the borrower relies on the broker’s oral representations and signs the loan documents.

Due to the underestimated closing costs, the borrower incurs additional and unexpected expenses, such as high late charges, an early due date, monthly payment adjustments and prepayment penalties. The additional expenses of payments and refinancing ultimately create an excessive financial burden on the borrower.

Eventually, the borrower defaults on the loan and loses the secured property through foreclosure.

Later, the borrower discovers the broker was aware of the actual loan terms and costs for origination when he agreed to the loan.

The broker’s failure to disclose the actual interest rate, the exact amount of the late charge, the size of the balloon payment and the actual closing costs is a breach of his agency duty to his client, the borrower.

The borrower can recover all his money losses caused by the broker’s misrepresentation of the terms of the loan and by the broker’s failure to discuss important provisions in the loan documents with his client. [Wyatt v. Union Mortgage Company (1979) 24 C3d 773]

As the borrower’s broker arranging a loan, a licensee must fully and accurately disclose all essential facts of the loan transaction which might affect the borrower’s decision to participate in the transaction. [B & P C §§10130; 10131(d); 10176(a),(i)]

The licensee’s duty to disclose and his obligation to deal fairly with borrowers commences on his first contact with prospective borrowers to solicit employment, before entering into a listing agreement or loan. [Realty Projects Inc. v. Smith (1973) 32 CA3d 204]

A prospective borrower has a right to expect a broker to accurately represent the terms of the loan offered, as well as to give accurate estimates regarding loan costs, brokerage fees and escrow expenses.

Even after the broker is employed as the agent of the borrower, his duty of disclosure and accurate representation is not completed by merely providing the loan documents to the borrower. The provisions in the documents must be discussed with the client to ensure he has an understanding sufficient to make a well-informed decision regarding his participation in the loan transaction. [B & P C §10241]