Canada's Condominium Magazine

BC real estate industry lacks ethics, transparency; higher fines recommended

It’s a serious thing when a self-regulating body that handles billions of dollars of public money loses the trust of that public. That is what has happened with British Columbia’s real estate industry, according to an Independent Advisory Group (IAG) appointed by the government to look into the industry. Alleged misconduct, the report states, combined with the perception that the Real Estate Council is unable or unwilling to take strong action to address it, has resulted in a loss of public trust. Based on its investigations, the IAG makes twenty-eight recommendations, most strikingly that fines for misconduct by individual real estate agents be increased from the existing $10,000 maximum to $250,000, and for brokerages from $20,000 to $500,000.

The chair of the IAG attributed the failure of the current state of regulation in the real estate industry to the realities of a market that were not envisioned when the regulatory framework was set up. Carolyn Rogers said that the “extreme price fluctuation” being seen in BC housing markets is an irresistible lure for people to “try to make a quick buck.” The regulatory regime, she said, was set up for people who buy and sell homes, not for people who are buying and selling investments. That is a different market, she said, and requires different regulatory rules and powers.

The language in some of the allegations that led to the setting up of the IAG does in fact sound more pertinent to a Wall Street scandal than to an old-fashioned real estate brokerage: insider trading, fraud, money laundering, shadow flipping, dual agency, volume incentives and double ending. Language aside, however, the allegations are so serious that the NDP’s housing critic in BC, David Eby, believes the industry has lost its right to self-regulate. He charged that the industry had allowed a culture of protecting realtors, not the public, to develop.

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A self-regulatory regime works when members of the profession hold themselves, and each other, to an ethical standard that is higher than anyone else does. It is not enough for individual licensees to act ethically; they must also hold each other to a high standard. Each member of a self-regulating industry needs to be part of the compliance regime and report misconduct promptly. The IAG found this culture is lacking in the real estate industry and that more needs to be done to reinforce the obligation for licensees to report misconduct.

The IAG does not recommend an end to self-regulation, however, focusing instead on how to improve it. Self-regulation only works when members of the profession hold themselves and each other to the highest ethical standard, the report states. “It is not enough for individual licensees to act ethically: they must also hold each other to a high standard.” The IAG found, rather damningly, that “this culture is lacking in the real estate industry.” Further, it found that financial compliance is given greater importance than the conduct of licensees.

The penalties, or “consequences” of misconduct have until now been too low, which is why the IAG recommends such dramatic increases. With commissions so high in today’s real estate market, low penalties for misconduct have come to be seen as the cost of doing business (“a transaction cost”). That perception significantly undermines the effectiveness and credibility of the regulator, the report says.

Another failure in the present system in BC has to do with the structure and governance of the real estate industry, which has created the perception of weakness and conflict of interest. There are eleven individual boards and one Real Estate Council, which work together in a collaborative way. The IAG’s concern, however, is that the roles of the boards and the Council have become blurred, especially with respect to complaints and penalties. This has led to “contradictions and confusion” among the public regarding who has responsibility to regulate misconduct and to deal with consumer complaints.

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Equally concerning are a lack of transparency in the boards’ discipline process, and the composition of the Council itself. Most of the Council’s members (thirteen out of seventeen) are industry members elected by their peers. As the report nicely puts it, “It is our view that some industry members voted to council may not fully appreciate that their role is to serve the council’s public interest mandate and not the interests of their peers or local board.” It is time to “rebalance” the council so that other, non-real estate industry perspectives are included.

One further point is that of educational requirements for becoming a licensed real estate agent in BC. The IAG finds that entry level education standards are too low, compared to other professions, given the importance and size of the financial transactions that realtors handle. It wants to see a greater emphasis on ethics in the licensing education, as well as improvements in continuing education and testing.

What is shadow flipping?

Shadow flipping refers to the legal process of assigning a real estate contract between a buyer and a seller to a third party, before the deal closes, for an amount higher than originally negotiated. If buyer A pays seller B $1 million for a home, A can then assign (or sell) that home to buyer C for $1.1 million, thus making $100,000 profit. Buyer C could then assign the same home to buyer D for $1.2 million, and so on.

One of the concerns arising from the practice is that it contributes to the rapid escalation of housing prices. It has been alleged that shadow flipping is particularly prevalent among wealthy foreign buyers. Another concern is that the intermediary buyer/sellers can make substantial profits without any tax obligations. In a transaction with several assigns (or flips), only the final buyer would have to pay the relevant taxes.

The IAG does not recommend ending the process, which is not illegal. Instead it recommends that the government require sellers to give their consent for contract assignments, whether the sale is facilitated by a real estate agent or not.

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