What are Independent Contractor Agreements?
An independent contractor agreement is an extremely important document. It governs the relationship between a supervising broker and the real estate sales person or the broker and broker associate. The agreement specifically identifies the company for whom the license is to be working, any terms applicable to the relationship (including commission split) and any other terms applicable to the relationship.
The independent contractor agreement identifies both the rights and obligations of the licensee. Only a clearly drafted independent contractor agreement assures the parties that their rights are protected and their obligations specifically identified. For example , the agreement might specifically state that the licensee is an independent contractor and is not to be treated as an employee. Often in competition litigation the issue devolves into an "if it looks like a duck, walks like a duck and quacks like a duck, it must be a duck" debate.
Independent contractor agreements may further provide for the indemnification of the company or even provide for advancement of legal fees to the licensee under certain circumstances. Only with a written agreement spelling out the parties rights and obligations should a specific situation develop can the issue be resolved.
Key Components of a Real Estate Salesman Agreement
A typical real estate salesman independent contractor agreement will have clauses related to duties, commission structures and the duration of the agreement.
CONTRACTOR’S DUTIES
First, the duties hereto are usually described in a provision, but it is often so that a salesman simply has to do sales and other incidental tasks as specifically described by his broker.
COMPANY’S DUTIES
The company’s duties usually involve providing support services and training to the Contractor.
DURATION OF THE AGREEMENT
Duration of the agreement is usually for a period of one year, but it is automatically extended for another year unless either party gives notice at least 90 days before the expiration that they do not wish to renew.
COMMISSION
Commissions are usually specifically stated in the contract, which may specify a percentage, a flat fee or a combination of both. A number of factors come into play in determining commission, such as:
A sample table of commission structure is as follows:
Sales Price Commission Rate
$40,000 12% ($4,800)
$50,000 11% ($5,500)
$80,000 10% ($8,000)
$100,000 9% ($9,000)
$150,000 8% ($12,000)
$250,000 7% ($17,500)
$300,000 6% ($18,000)
$400,000 5% ($20,000)
In this contractor agreement, commissions above $400,000 are negotiated.
The Contractor employs other salespersons under him/her, which are paid according to the following schedule:
Sales Price Commission Rate
Up to 150,000 8% ($12,000)
150,000-175,000 6% ($11,250)
175,000-200,000 5% ($10,000)
200,000-225,000 4% ($9,000)
225,000-250,000 3% ($7,000)
250,000-275,000 2% ($5,000)
275,000-300,000 1% ($3,000)
Prices above $300,000 are negotiable.
COMMISSION SPLITS WITH BROKER
The Contractor will pay to the Broker Company a commission percentage that varies depending on the price of the property sold.
Advantages for Real Estate Brokers & Salesmen
The advantages of having real estate brokers enter into real estate salesman independent contractor agreements are not limited to improving protections for the brokers. There are a number of equally important advantages that accrue to the salesmen themselves. One of the most important of these advantages is flexibility. By entering into an independent contractor agreement with a specified duration, a salesman can commit him/herself to that duration and can depend upon being able to remain affiliated with the specified broker (or find another one) for that period of time. This avoids much of the uncertainty that a salesman would have if he/she were not independent and could be terminated at any time by the broker.
Another important benefit is the ability of the salesmen to manage their own tax situations. As employees, salesmen generally would be taxed on all commissions and/or fees paid by their broker. This is true even if the salesman has not yet spent the money, because the employee is taxed presently on all income received, not on income that the salesman has in fact reserved to pay for future expenses (e.g. co-brokerage commissions, listing and showing expenses, etc). By contrast, an independent contractor is taxed only on amounts actually received. So the independent contractor is taxed on $500k of gross income (assume that that amount is the amount of commissions and/or fees received by the salesman for the year), notwithstanding that $300k was expended for business expenses and $200k was prefunded for future expenses. By comparison, an employee salesman would be taxed on $500k and receive a refund for the $300k of expenses that exceeded the amount of his/her sales income. That refund would not occur until the end of the year and then only after filing a federal income tax return. The independent contractor salesman, by contrast, would incur the expenses $300k initially and deduct the $200k placement of funds into the reserve as an expense against the amounts to which the reserve will be applied, thus reducing his/her taxable income for that year. In addition, the independent contractor would not be tax protected until the end of the year and then only if the Internal Revenue Service permits its employees to deduct the expenses.
There are also legal protections that both real estate companies and salesmen receive only because they are independent contractors. For example, under Massachusetts law: On occasions, Massachusetts courts have addressed issues specifically involving the employment relationship and have held that those statutes should not be construed as granting rights to independent contractors.
Legal Issues and Compliance
Real estate conflicts may seem mundane compared to the industry’s high-stakes deals and wide range of personalities. Yet, since the earliest land grants in America, the relationship between the real estate salesperson and broker has been a complex one.
For companies relying on a team of sales agents to put in the hours and bring in business, Independent Contractor Agreements (ICAs) can cause some conflict. In fact, even the basic definition of what creates an independent contractor can leave employers fumbling.
Defining the relationship ICAs are not optional, but rather are a means to creating common understanding between the parties. Employers and employees should both keep in mind that most employee/employer benefits only accrue to employees, not independent contractors. Vacation, sick leave, medical insurance, unemployment insurance, and coverage under the federal Employment Retirement Income Security Act (ERISA), all of which benefit the employee, do not apply to independent contractors.
Raymond J. Eckl, Jr., an attorney with Keller Williams, points out in a May 2015 article on HR Law Daily, that "the IRS definition of an employee is very broad and if you want happiness in your real estate practice, it’s best to err in favor of treating everyone as an employee and hiring a good labor law attorney to protect yourself."
The IRS defines reclassification in terms of whether the hiring party has the right to direct and control the individual who performs the services. If there is a significant amount of direction and control over the worker, the latter should be classified as an employee. This applies to the kind of work being performed, the time period, the location and the amount of direction and control exercised by the hiring party over the employee. (See Publication 1779, IRS January 2016). The IRS also considers whether the worker is key to the operations of the business in making its determination.
State laws can vary Beyond the IRS, each state has its own definition of independent contractors that may differ significantly from federal law. For example, California defines an independent contractor as one who "performs work which is outside the usual course of the business for which such service is performed…it is understood that the Local has no control or direction over the manner in which such services are to be performed…"
While the State of Colorado has not adopted the IRS’ 20-factor test, it does follow the ABC Test which states that a person is an independent contractor only if (A) that person is free from control or direction, (B) that person is performing services outside the normal course of the company, and (C) that person is customarily engaged in an independently established trade, occupation, profession or business.
Final words of wisdom Responsibility for compliance does fall on the employer, so review the requirements under applicable state law as well as the IRS definition in your state.
Take special care when defining "Independent Contractor" in the ICA. Some ICAs define the contractor as a non-employee, even while describing in detail all the guidance and integrated company procedures the person has to follow.
"Even if you comply with the letter of the law and regulations, it’s often the ‘spirit of the law’ that people violate since employees or prospective employees complain that they were misclassified as independent contractors and are owed back pay or benefits," Eckl writes.
Typical Obstacles and Solutions
The first hurdle for many real estate companies is in determining whether the covered classification of a worker should be labeled an employee or an independent contractor. Most of these issues arise at the beginning of the relationship. This determination is important because independent contractors do not participate in employee benefit plans. If an independent contractor relationship is converted into that of an employee after benefits have been offered, is the person entitled to those benefits? This is especially important when it comes to healthcare coverage. If someone who has been classified as an independent contractor later becomes an employee, those individuals must be added to the health plan as beneficiaries. Employers should make sure that the benefits offered to independent contractors are appropriate and that the workers are not deemed to be employees retroactive to the time when they were first engaged.
Another common problem in these types of arrangements is not fully memorializing the agreement . A written agreement is always required. However, a written agreement can also be problematic if the agreement is not properly drafted or does not accurately reflect the real agreement between the parties. A solidly written agreement should be clear, concise and should cover all issues arising in employer-employee relationships. The agreement should also be clear and specific about the rights, powers and duties of both the broker and the sales agent (independent contractor) so that all parties know what the expectations are. The agreement should include compensation, fees to be paid to the local board if applicable, and association splits. A well-written ‘independent contractor’ agreement will have detailed and precise language, and will limit the risks to the brokerage from claims by the independent contractors when the relationship is done. Simply put, in a poorly written agreement, these sales agents or independent contractors are much more likely to become employees.
Best Practices for Drafting Agreements
A comprehensive, yet not overly lengthy and complex, agreement tailored to the unique needs of the company is essential. A well-drafted agreement should leave little room for ambiguity. Finding the "sweet spot" of what to put in writing, however, does require a balancing act. Too much information could lead to unenforceability, overly long agreements are not only less likely to be read, but can lead to disputes over whether the agreement is binding and coverages applicable. Thus, when drafting the agreement, it is wise to consider the following: Professional license requirements should be noted. It is always a good idea to include a sentence or two in the agreement stating that the employee has a valid profession license and that the employee will notify the company of any medical or disciplinary actions. In addition, as most employment agreements contain a non-competition clause, it is prudent to include the following: As indicated above, getting this "sweet spot" of perfect length and detail can be a challenge. However, keep in mind that the purpose of the agreement is very clear – you want to create a legally binding working relationship with the sales person. Therefore, the covenant to market and sell exclusively for you is essential and you should list your preferences including who you allow to be considered as part of a boutique firm (i.e. you alone or only a few). (Note: do not make the mistake of allowing the sales person to sell your firm’s real estate and still allow him to represent other real estate agents outside your firm. Such competition is not allowed under California law, and voids your exclusive agreement. (See "Buying a Real Estate License.") As such, you want to be clear with your independent contractor agreement on what is or is not acceptable competition when it comes to real estate agents that he/she can represent. Broadly defining competition is also essential. For instance, omitting the word "represent" or "an associate" and referring to competing in "any capacity" should be studied closely because sometimes such broad statements have created additional problems and been found void. (See, e.g., all cases cited here.) Finally, terminating an independent contractor agreement can be a sensitive subject. To that end, when drafting the agreement, give careful consideration to the reasons under which either party can terminate the agreement. You can state the period under which a sales person may terminate the agreement and also note the requirement for giving notice, if any.
Final Thoughts: The Value of Well-Defined Contracts
The Independent Contractor Agreement is central to ensuring the success and statutory compliance of real estate salespeople. The Agreement identifies the clear expectations from both the brokerage and salesperson, various commission payment arrangements between the parties, and the continuous legal compliance of licensees under each brokerage. Where there is no Independent Contractor Agreement in place, or where such Agreement is considered by newly licensed salespersons to be unfair or unbalanced, there is a higher risk that the Agreement is invalid under the Real Estate Trading Act (R.S.A. 2007, c.28, s. 18 (1)) as being contrary to legislative intent . In the worst case scenario, a failure to adhere to the statute will result in a finding that a contract is unconscionable and thus void, entitling a defrauded party to a returning of all or part of the money paid for services not actually rendered.
By having a well-structured Independent Contractor Agreement in place, the risk of potential violation of the Real Estate Trading Act is substantially diminished. Although a well-structured Independent Contractor Agreement is unlikely in and of itself to disadvantage any salesperson of his or her rights, the ability to have clearly set out the duties of the parties with an eye towards not violating any statutory rights or standards provides a necessary mutual protection. As always, clear communication with salespeople and a general openness and willingness to sit down and explain the workings of the Agreement is encouraged.