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Here's why the real estate industry could be set to change

Stephen Koukoulas

The real estate industry is about to confront some serious competition from a new entrant to the market.

Purplebricks, a UK based real estate firm, have judged that the market for selling property in Australia is ripe for a new competitor to enter the market, having been framed more than a generation ago and characterised by high fees that cost property sellers dearly whenever they sell their house.

It is important to disclose that I was engaged by Purplebricks to look at some key facts on the Australian property market as they considered how they could disrupt and recast the industry but in doing this work, I was impressed with their business model.

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In doing that work, it was clear to me that real estate agents have been making considerable profits from home sellers as the three decade boom in house prices has massively outpaced wages for the rest of the workforce.

A flat fixed commission charged by real estate agents means that the dollar value of their commissions has increased by six-fold over the last 30 years, in line with the rise in house prices. Over that time, average wages have risen by 215 per cent meaning that the average real estate agent commission for the sale of an average dwelling has more than doubled from just over 10 per cent of average annual wages to around 23 per cent.

And this extraordinary rise in commissions has occurred when the efficiency and productivity gains in the real estate industry have lowered many of the costs associated with being a real estate agent.

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Here is an example of what we are dealing with.

Every month, it seems, there is an update of the suburbs in the main cities where the average house prices has hit and exceeded $1 million.

Under the current formula for real estate agent fees which is generally set at a fee of 2.2 per cent of the selling price plus $2,500 or so for marketing materials, the commission a seller would pay to the real estate agent of a $1 million property is around $24,500. That is a huge fee, particularly in a rising market, where houses often sell in 5 to 6 weeks.

Under the alternative fee model of Purplebricks, there is a flat fee of $4,500, which includes marketing. This is $20,000 below the traditional real estate agent fee for the same service.

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It will, of course, be interesting to see the market penetration that Purpluebricks is able to achieve. One would expect them to severely disrupt the industry. It would not be at all surprising if the traditional real estate agents fail to react to this incursion to their business model. They may act by cutting their fees, which of course would be great news for all home sellers.

Either way, the entry of Purplebricks to the Australian real estate market will see home sellers save a lot of money. This money will be freed up to be spent elsewhere in the economy and at a time when the rate of growth is sluggish, this will be a good thing.

* The author has undertaken paid work on behalf of Purplebricks. Parts of this article draw on that research and analysis.

Stephen Koukoulas is a Yahoo7 Finance expert with more than 25 years experience as an economist in government, as Global Head of economic and market research, as Chief Economist for two major banks, and as economic advisor to the Prime Minister of Australia.