Beyond Licensing – Finances to Consider
Whether you are or were a full-time salaried employee at a big corporate, a Mom or Dad stepping back into a career, or even a former or current real estate agent, thinking of real estate as a business and not as a side-job or a never-ending job, and subsequently managing your finances like a business, takes some education and planning.
Here are some crucial tips to help you manage your finances:
Determining your net income (what ends up in your pocket for you to spend) is not as simple as adding up your commission checks. To start, be familiar with the numbers that make up the calculation of your commission and take home after operating expenses and cost of sales.
Gross Commission Income
Gross Commission Income is fairly easy to calculate and to estimate. To calculate your average gross commission income per sale, multiply your average commission rate by the average sales price of the homes you sell. For example, 3% x $250,000 = $7,500. This would be the amount of your commission check every time you sell a property.
(The average commission rate is typically 3% per side, assuming you don’t discount your value. Join a broker who teaches you how to communicate your value proposition to clients. You’ll want to hang on to your well-deserved income.)
Estimate Average House Price
If you are new to the industry, estimate your sales price using statistics about average house prices locally. Before you join an office, do a quick Google search for the average house price in the area in which you decide to work. Then, ask your broker what is standard for the office and what is standard for new agents. The numbers for new agents could be different, and you are better off being conservative with your estimate. For example, the average sales price in your office could be $350,000 and for new agents, $250,000.
Estimate Number of Sales
To estimate your total Gross Commission Income for the year, estimate how many homes you intend to sell in your first year. Multiply this by your Average Commission as calculated above. For example, 6 x $7,500 = $45,000.
Again, speaking with your broker about what is standard for new agents will help you plan. You might also ask what a “Rookie of the Year” in their office typically sells. The broker may tell you, for example, that the top, first-year agent sells about $5,000,000 in sales volume. Knowing the average sales price for the office is $250,000, you can work out that the top performer sells about 20 homes in his or her first year. ($5 million divided by $250,000.)
Breaking Down Expenses
Now, the question is, how much of that Gross Commission Income does the Rookie keep? We know from earlier that the Gross Commission Income (GCI) for a $250,000 house is $7,500. So the Rookie’s total GCI is $7,500 x 20 homes for a total of $150,000. However, this doesn’t take into account what the Rookie paid for any expenses.
This is where things become more difficult. Estimating expenses can be broken down further into expenses related to the “Operating Expenses” and” Cost of Sales”.
Operating Expenses vs Cost of Sales
Think of Operating Expenses as monthly or annual expenses you pay. Some of these will be required just to maintain your real estate license, whether you do any business at all. Others will be an investment in things like marketing, which will scale as your business grows.
Think of Cost of Sales as a cost per house sold. If you don’t sell any houses, you don’t pay any of these expenses. (That sort of defeats the purpose of business though!)
As with any business, as it grows, expenses grow. However, if you are prudent and manage your finances like a business with a true P&L, there are opportunities to find efficiencies and control both your Operating Expenses and Cost of Sales as a percentage of your income. Without keeping a close eye on things, many an agent will overspend, spend too early in the business, or not hold their money accountable to the appropriate return on investment.
With regards to monthly and annual expenses, there will be an expense every year to renew your real estate license and take continuing education training to keep it up to date. It is fairly easy to speak to your local board of realtors, find out the annual requirements, and budget for these in advance.
Then you have the cost of things like your car, insurance, fuel, yard signs, photography, print materials, etc. These may or may not be related to the cost of the sale, i.e., auto/insurance, marketing, equipment, supplies, etc. (The book The Millionaire Real Estate Agent has a great outline of what the average expenses are per category for different levels of sales on page 157. It is generally recognized industry-wide as a useful resource for new and experienced agents planning how to run their business.)
Cost of Sales
Cost of Sales relates to the amount of money you pay per transaction to do the deal. This includes the amount that you pay to your broker (if you are a solo agent doing all the work yourself). In addition, as you grow, you may end up paying an assistant on your team to show homes to your clients, for example. (This is known as a Showing Specialist.) If so, rather than paying an hourly rate or salary, at first, you might pay them a percentage of the commission after the sale closes. This is also considered a cost of sale.
So where do Broker fees come in to play, and how are they calculated?
Broker fees can get a little more complicated. You’ll have some that are monthly, recurring fees, like the office fee (Operating Expenses – Occupancy, Technology, etc.), and others that are a percentage contribution per sale (also known as your “split”), which are Cost of Sales.
These fees vary greatly depending on the brokerage, and you’ll want to make sure you know what they are up front. Also, be very curious about what you get in return for your money.
You may see something like the following:
Low Office Fee / High Split
The monthly fee is reasonable, but the amount the broker takes per transaction is higher. This seems prudent, especially in the beginning, as you won’t have high operating expenses even if you are not yet selling homes.
High Office Fee / Low Split
This is often more attractive to higher producing sales agents who know their budget. They know that when they give away a percentage of each transaction, eventually this could equate to more than the monthly fixed expense.
However, even with a low split, as you grow, you could end up overpaying your broker.
What successful agents want to look for is a broker with a fixed or “capped” split. As in, the agent pays a percentage cost per sale closed. However, at some point on an annual basis, the contribution to the Broker is capped. This is the only way to scale your business. Reduce the percentage of the cost per sale and essentially make it a fixed expense.
Take, for example, a broker asking for 10% of all Gross Commission Income. For an agent making $250,000 in GCI per year, that’s a $25,000 contribution. Compare that to a broker asking for 30% of Gross Commission capped at $25,000.
The first deal (10%) seems better at first glance, when in fact, they are the same.
Benefits of the Capped Split
Now assume that same agent doubles the business to $500,000 in GCI a year. The 10% split equates to a $50,000 cost of sales budget, while the 30% capped contribution remains at $25,000.
Sure, you may pay more to the broker in the beginning when you are a newer agent in an office with this structure. On the other hand, you can be sure that the leadership in these offices are committed to you growing your business. They want you to keep paying the full “capped” amount year after year. Thus, their game is training and retention.
Also, since every top producing agent pays the same amount, and pays the same as even some of the lower producing agents, the leadership tend to be fair towards all agents, treating them equally. They don’t rely on a single top agent paying all the bills, which means those agents can’t, and don’t, bully other agents in the office.
As a coach, I noticed agents joined these companies in the beginning because of their high level of training. They would then leave right before the split started to benefit them and their business. If you are going to start with an office with good training, and a higher but capped split, you may as well continue the journey and reap the full rewards.
Do Your Research
Before you even get your license, visit with a few brokerages to understand their fee structure.
Ask if they have any tools to help you calculate your take home after splits, taking into consideration taxes, monthly expenses, etc. so you know exactly how much will end up in your pocket.
Within the last few years, Keller Williams, for example, rolled out their Career Growth Initiative (CGI). The initiative includes a suite of tools with online training and webinars, as well as a calculator for goal setting. It also allows you to track and measure progress against key performance indicators on a monthly basis to keep you on target for the year.
Also, find out everything they offer in return for their fees, and pay attention. Do they have a profit sharing option, for example? How do you earn and how do you vest? Remember, in real estate, if you stop selling, you stop earning. Being vested in Profit Share can be a retirement package for you and your loved ones.
How much are they investing in technology? Are they protecting their agents from shifts in the industry as even real estate transactions move online?
How does their training rank compared to other companies?
Numbers tell a story. Listen.
Create a Budget and Lead with Revenue
Finally, in addition to doing your research by speaking to multiple brokers, create a spreadsheet for estimating your income and expenses. Be ready for little to no income for the first three months, and save enough to cover your personal, as well as business, expenses during that time.
Knowing how much to expect for each of these is important in managing your finances successfully your first year and beyond.
If you have questions about any of the above or would like us to put you in touch with a broker in your area, please feel free to contact us. We are here to help.
Learn more about Keller Williams’ splits and business model.
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