Table of Contents
Risk Identification
Risk identification takes place on two levels. One is identification of the risks associated with being involved in real estate transactions. The other is the risk associated with operating a business. Potential losses associated with owning buildings, equipment, hiring staff, interacting with clients and customers and the like are fundamentally the same regardless of the business enterprise. You can think of such risks as "generic risks." Real estate transaction risks are, on the other hand, specific to being in the business of helping clients buy or sell specific real property. You can think of such risks as "transaction risks."
Generic Risks
Businesses, all businesses, have assets in the form of buildings, tools and staff. These assets must be protected and managed in a way that reduces risk of lost - both loss of the asset and losses caused by loss of the asset. A fire or a car crash, for instance, can cost a business asset and staff losses that cause further losses.
The real estate industry is mostly structured around independent contractor relationships. That structure creates businesses within businesses. Real estate companies, many of them franchised entities within still larger businesses, associated with individual agents running their own small businesses as independent contractors. General business risks exist at each level. Typically, generic business risks are handled independently at each level. Analysis of these generic risks is covered in the Risk Analysis section of this subject.
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Transactional Risks
Most of the risk involved in real estate and, therefore, the risk we most want to learn to manage, is risk associated with real estate transactions. Transaction risks flow from principal to real estate agent. That is the case because most losses suffered by real estate professionals are losses one of the principals would suffer personally if they could not shift the loss to the agent. If there is no loss to a principal, there is nothing to shift and, therefore, no risk to the agent.
This simple insight is the key to understanding risk identification in the real estate profession. What we want to identify initially is not the real estate professional's risks, but their client's and customer's risks. We want to identify all the ways a buyer or seller might end up suffering financial loss as the result of being involved in a real estate transaction. This sounds daunting, but it is actually very simple, at least initially.
Identifying transactional risks is easier on the seller's side of the transaction. Seller's normally do not suffer loses as the result of real estate transactions - as long as the property is worth more than the seller owes on it. That is the case because a real estate transaction reduced to its essence is the exchange of real property for money. The seller gets a pocket full of money and the buyer gets the deed to some kind of real property. If you think about it at that level, it is easy to see that it is a lot more likely there is something wrong with the property than it is there is something wrong with the money.
For identification purposes, transactional risks can be broken down into "direct risks" and "reflected risks." Direct risks are those that flow directly from the agent's duties and responsibilities to the client, to the public or to the Real Estate Agency. Reflected risks are those created by the agent's principal. When the principal breaches a legal duty, their agent, though not directly responsible, may well be put at risk. Because the duties owed, and services performed, vary depending on which side of a transaction the agent is on, direct and reflected transactional risks must be identified on both the listing side and the selling side.
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Identifying Listing Side Risks
Direct transactional risks on the listing side are risks associated with the services provided, not the property. Direct risks flow from the duties an agent owes their client. Click HERE for a copy of listing side agency duties. These duties create the potential for the client to sue the agent claiming the agent breached a duty owed to the principal. Such claims are lumped under the heading of "professional malpractice."
In Oregon, as in many states, the duties a real estate agent owes to the seller are set out in statute. Click HERE for a detailed discussion of statutory duties in Oregon. Notwithstanding this statutory illumination, the duties remain basically the same as under common law "fiduciary" duties: Loyalty; Obedience; Confidentiality; Disclosure; Reasonable Care and Diligence; and Accounting. Each duty is a separate risk generator for risk identification purposes.
The duty of loyalty will be implicated anytime the agent deals with their principal directly or otherwise benefits from the agency relationship in the way not known or anticipated by the principal. For example, a listing agent buying the listed property or an agent taking a kickback on a home warranty or receiving an undisclosed "bonus" of some kind on the sale or taking an interest in a company that is purchasing the property or anything that might secretly put money (other than the agreed-to commission) in the agent's pocket. Analysis of these loyalty risks is covered in the Risk Analysis section of this subject.
Obedience means obeying the lawful instructions of the principal. This duty is rarely violated directly as in an agent refusing to do what the principal asks. Obedience becomes a risk management issue when the seller asks the agent to do something, usually withhold information, which violates the agent's duties of honesty and fair dealing. Obedience issues are, therefore, almost always based on a conflict of duties. Analysis of these obedience risks is covered in the Risk Analysis section of this subject.
The duty of confidentiality is implicated anytime an agent discusses the object of the agency relationship with a third party. On the listing side, that means anytime the seller's agent discusses the property, the seller's motivation or the terms of a transaction with anyone other than the seller. Confidentiality is a big duty. Fortunately, the definition of confidential information (anything learned as an agent that it is not in the principal's interest to disclose or is not required by law to be disclosed) makes analyzing and controlling confidentiality risk fairly simple. Analysis of confidentiality risks is covered in the Risk Analysis section of this subject.
An agent's statutory duty of disclosure runs to all parties to a real estate transaction. To one's own client, an agent must disclose anything that might be important or useful to the client. Direct risk is created anytime an agent withholds information from a client. On the listing side, for instance, the agent might withhold the fact that another offer has been made or is coming in, or that the buyer has failed to meet some deadline or anything else the client is entitled to know about. In Oregon, real estate licensees have a disclosure duty to all parties, not just their clients, creating yet another direct disclosure risk. This duty, however, is limited to material information not known or readily available to another party. Analysis of disclosure risks is covered in the Risk Analysis section of this subject.
The duty of reasonable care and diligence generates little risk on the listing side. Care and diligence is strictly a direct risk issue. Failing to exercise care and diligence means failing to protect or advance the client interests. The duty runs directly only to the client. On the listing side, the seller's interests are mostly financial. Care and diligence can become an issue on the listing side if property is listed unreasonably high and doesn't sell as a result, or listed too low and immediately sells below its market value or there is insufficient or incompetent marketing. Sellers who become aware of these costs may try to shift them to the real estate agent. It is this simple economic fact that drives listing cancellations, listing side marketing strife, lack of diligence ethics complaints and occasionally a lawsuit. Analysis of reasonable care and diligence risks is covered in the Risk Analysis section of this subject.
Accounting is the final direct risk duty. Accounting is a duty that flows logically from the duties of loyalty, disclosure and diligence. The duty to account requires the agent to keep track of (account for) any money or property of the client's coming into the agent's hands as a result of the agency. The duty to account can be violated innocently from ignorance, but typically failure-to-account claims are the result of the agent deliberately hiding or otherwise misappropriating their client's funds. Because Oregon law requires licensees to keep their client's funds in trust accounts, accounting is mostly a matter of following trust account rules. Analysis of accounting risk is covered in the Risk Analysis section of this subject.
In addition to the direct risks created by agency relationships, there is also a direct risk that flows from simply being in the business of providing real estate services. This risk results from the Unlawful Trade Practices Act. The Unlawful Trade Practices Act is state consumer protection legislation that protects consumers as consumers from sharp business practices. The Act creates a separate duty to conduct business affairs in a lawful manner. As such, it creates a direct risk for all real estate licensees. Analysis of risks created by the Unlawful Trade Practice Act is covered in the Risk Analysis section of this subject.
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Identifying Selling Side Direct Risks
Selling side risks flow from the same duties as listing side risks. The duties of loyalty, obedience, confidentiality, disclosure, reasonable care and diligence, and accounting all apply. Just like on the listing side, each duty is a separate risk generator for risk identification purposes. What changes is the relative importance of each duty as a risk generator. Loyalty, obedience, confidentiality, and disclosure duties create the same type of risk on the selling side as on the listing side. The risks are similar but, with the exception of confidentiality, there is less opportunity to violate these duties on the selling side. The opportunity to violate the duty of reasonable care and diligence is, however, greatly increased on the selling side.
Loyalty to a buyer client means placing the buyer's interests in front of the agent's. The buyer's primary interest is in finding suitable property at a price they are willing to pay. Loyalty can become a risk management issue on the selling side when the buyer's agent tries to beat their client out of a property by buying it himself. Loyalty can also be implicated if the agent places the interests of other buyers (buyer/buyer conflicts) or third parties (lenders, consultants etc.) over those of the client. Analysis of this kind of selling side loyalty risks is covered in the Risk Analysis section of this subject.
Obedience, as was the case on the listing side, is rarely violated directly by an agent refusing to do what the principal asks. Obedience usually becomes a risk management issue on the selling side only if the buyer demands the selling agent withhold material information from the seller, lenders or other service providers. On the selling side, the information the buyer wants withheld typically involves the buyer's financial position. That information may or may not be confidential depending on the circumstances and who the information is being withheld from. For instance, buyers may ask their agent to help them hide material financial information from a lender and thus create a conflict between the agent's obedience duty and their duty of honesty and fair dealing. Analysis of these obedience risks is covered in the Risk Analysis section of this subject.
Confidentiality is implicated anytime an agent discusses the object of the agency relationship with a third party. On the selling side, that means potential risk anytime the buyer's agent discusses the buyer's motivation, financial situation or best price with anyone other than the buyer. Confidentiality is a big duty on the selling side of a real estate transaction. Agents sometimes forget that confidential information gained as the result of an agency relationship remains confidential even after the agency relationship ends. Analysis of these direct risks is covered in the Risk Analysis section of this subject.
Disclosure requirements create potential risk anytime the buyer's agent withholds information from the buyer. For instance, an agent might withhold information about a newly listed property because their client has an offer in on another property. In Oregon, real estate licensees have a disclosure duty to all parties, not just their clients, creating yet another disclosure risk. This disclosure duty to all parties is implicated if the buyer wants material information (like inability to redeem an earnest money note) withheld from the seller. Analysis of disclosure risks is covered in the Risk Analysis section of this subject.
Reasonable care and diligence, without doubt, generates the most risk on the selling side. The buyer's direct risks in a real estate transaction are huge. They may pay too much for the property or find the property contains material defects or discover that it is unfit for their intended purpose or that external factors (everything from bad neighbors to flood hazards) greatly reduce its desirability. When any of these things happen, the buyer will wonder why their real estate professional did not prevent the harm or at least warn them of the potential. Analysis of these reasonable care and diligence risks is covered in the Risk Analysis section of this subject.
Accounting is the final direct risk duty on the selling side. As on the listing side, the duty to account requires the agent to keep track of (account for) any money or property of the client's coming into the agent's hands as a result of the agency. Because Oregon law requires licensees to keep their client's funds in trust accounts, accounting is mostly a matter of following trust account rules. Analysis of direct accounting risk is covered in the Risk Analysis section of this subject.
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