California Internet Real Estate Restrictions

Introduction

Owning a home is a staple of the American Dream, and the efficiencies of the Internet promise to make that dream accessible to more and more people.  From researching neighborhoods and home prices, to finding a house, getting an appraisal as well as obtaining financing, title insurance, and volumes of information in between, the Internet increasingly offers myriad new possibilities for making the home purchase easier and cheaper than it has ever been before. ¹

On the forefront of this trend are companies like ForSaleByOwner.com, a New York Internet advertising and information service founded in the late 1990s and run by young entrepreneurs Damon Giglio and Colby Sambrotto.  Recognizing the value of the Internet to the real estate market and the growing interest in avoiding high broker commissions, Giglio and Sambrotto built a company that empowers owners to advertise and sell their homes themselves and offers both buyers and sellers volumes of information on the process.  Selling a home, as their website puts it, “is not rocket science,” and many homeowners these days, especially those in areas where home prices are high, would prefer to avoid paying high broker commissions.  In fact, the Progressive Policy Institute estimates that using information technology to its full potential could cut the transaction costs of home buying in half, saving homeowners nearly $40 billion a year. ²   Giglio and Sambrotto and their company are trying to make this prediction a reality.  With their motto of “our mission is no commission” and their brash challenge to real estate brokers to modernize or go the way of the buggy whip, ForSaleByOwner.com and other companies like it have the potential to revolutionize the business of buying and selling homes.

Unfortunately, many states and real estate industry insiders have met the promise of new technology and the potential for new ways of doing business with the blunt cudgel of regulation.  The State of California offers one of the most egregious examples of this trend.

In California, companies like ForSaleByOwner.com, which advertise or list homes or properties for a fee, must become licensed real estate brokers in order to do business in the state. ³   Obtaining a brokers license requires up to two years of college-level courses and apprenticeship before one may even take the brokers examination, ⁴ an effective barrier to doing business in the state for a small company like ForSaleByOwner.com, which operates on tight margins in a very competitive market like real estate.  The company could not afford to hire a licensed broker or to spend the time and money necessary to obtain a brokers license for itself.  More importantly, it shouldn’t have to.  ForSaleByOwner.com is not a real estate broker.  It does not represent property owners or buyers or give advice about particular transactions, it does not set up or negotiate real estate deals, and it does not show homes or find properties for buyers.  Nor does it charge high commissions like brokers do.  It simply provides an advertising platform and information to homeowners for a flat fee, empowering individuals to sell and purchase homes on their own.  There is no more reason to require ForSaleByOwner.com to become licensed than there is to require newspapers to do so simply because they include real estate classified ads.

On May 14, 2003, the Washington, D.C.-based Institute for Justice filed ForSaleByOwner.com v. Zinneman, a First Amendment challenge to California’s onerous licensing regime on behalf of ForSaleByOwner.com and a California affiliate that publishes ForSaleByOwner.com Magazine in Sacramento.  The First Amendment guarantees not only that Americans may speak their minds without having to obtain approval of government censors, but that individuals may send and receive information vital to their daily lives as well.  Information that impacts financial and commercial decisions is as vital to our lives as the opinions we express. ⁵   Laws such as California’s that require a license to distribute information or otherwise unreasonably impede its flow should be struck down.

Predictably, the State contends that enforcing its laws against companies like ForSaleByOwner.com protects consumers. ⁶   The State, however, allows newspapers to advertise homes for sale without obtaining a license, ⁷ and California consumers have managed for years to navigate the classified ads without the government watching over them.  Indeed, many newspapers in California have websites that offer classified ads online, further underscoring the absurdity of singling out companies like ForSaleByOwner.com for special treatment under the licensing laws. ⁸   Moreover, economists and legal scholars have recognized for years that restrictive licensing laws do much more harm to consumers and the economy in general than good. ⁹   Laws that inhibit advertising and the free flow of information only compound the harm to consumers and the economy. ¹⁰   The U.S. Supreme Court has understood this in the First Amendment context by making clear that more information is better for consumers than less. ¹¹

This is an important test case with broad implications for e-commerce and First Amendment jurisprudence.  At a time when information is more important to the economy than ever before, government remains a serious impediment to the free flow of information and the economic benefits it promises.  States clamor to tax Internet-based businesses, they erect barriers to e-commerce, and they pass laws that favor local brick-and-mortar businesses at the expense of often more efficient Internet competitors. ¹²   Indeed, the FTC recently held a public workshop on barriers to e-commerce at which one entire panel was devoted to the real estate industry. ¹³   Such laws harm businesses and consumers, stifle innovation and perpetuate wasteful and antiquated business practices.  They benefit no one but entrenched interests and bureaucrats.

If California can require Internet advertisers to become licensed real estate brokers, other states can as well.  Indeed, every state requires real estate brokers to become licensed, many with similar requirements to California’s. ¹⁴   So far, only a few have applied licensing provisions to Internet and print advertising companies. ¹⁵   If all states did so, businesses like ForSaleByOwner.com, which depend on the ability to serve customers in many states, would become extinct.

At bottom, consumers, not government or real estate brokers, ultimately bear the consequences of their home buying and selling decisions.  Consumers, not government or real estate brokers, ought to be permitted to choose how they advertise their homes and where they obtain information, and companies like ForSaleByOwner.com ought to be permitted to give them that choice.  Free trade and the free flow of information are supreme values under our constitutional system.  If e-commerce and its benefits are to be allowed to flourish in California, the State must respect these constitutional values.

The Rise of Internet Real Estate Services

Buying a home is among the most important decisions most people make in a lifetime and certainly one of the most expensive purchases.  Home ownership virtually defines the American Dream, and at roughly one tenth of gross domestic product, the real estate services industry is huge business in this country. ¹⁶

Given the importance of information to home buying and the cost savings and efficiencies afforded by the Internet, a marriage between the two was inevitable.  The National Association of Realtors estimates that in 2002, two-thirds of homebuyers with Internet access used the web to shop for their next home. ¹⁷   In recent years a number of businesses have sought to tap the potential of the Internet to allow both homeowners and buyers to enter the real estate market easily and efficiently without the services of a broker. ¹⁸   Many people feel they have greater flexibility and control over the sale of their home if they do it themselves and recognize that buying or selling a home is mostly a matter of common sense. ¹⁹   Moreover, broker commissions can run as high as six and sometimes seven percent of the sale price, meaning that homeowners in many areas of the country are paying upwards of $10,000 to real estate brokers when their home is sold.  In California, where home prices are high, broker commissions often top $20,000. ²⁰

In addition to ForSaleByOwner.com, companies such as BuyOwner.com, PrivateSale.com, FSBO.com and others offer online advertising and information to homeowners.  So-called “for sale by owner” or “FSBO” companies such as these represent as much as 20 percent of the market. ²¹   A number of sites targeting home buyers provide access to information on home prices, neighborhoods, schools, local laws and other information important to buyers.  According to Nielson/Net Ratings surveys, the number of users of such sites has jumped by 17 percent in the past year.  Mortgage lenders, appraisers and title insurance companies have also taken their services online. ²²   The market for these services will only grow as the younger, more Internet and tech-savvy generations begin buying homes.

Unfortunately, government regulations too often fail to keep pace with the changes in the market.  This is especially true with respect to online real estate services.  As Shane Ham and Robert Atkinson of the Progressive Policy Institute put it recently, “[t]he residential real estate industry has lagged behind many other industries in e-transformation, still relying on face-to-face transactions, paper-intensive processes, and middlemen to negotiate the myriad and complex facets of a typical purchase.” ²³   Laws are a large part of the problem, according to Ham and Atkinson, because they allow middlemen, such as real estate brokers, to maintain control over large parts of the real estate transaction or key assets such as the Multiple Listing Service, the largest database of homes for sale. ²⁴   California’s broad licensing law achieves the same result by preventing competition from online businesses such as ForSaleByOwner.com.  Eliminating such laws and allowing information technology to flourish would cut transaction costs of real estate sales substantially.  It would also increase price competition, saving consumers billions of dollars a year and making homeownership possible for many more people. ²⁵

Real Estate Licensing in California

California is, by almost any measure, the largest real estate market in the country. ²⁶   And home prices in its major urban centers are among the highest in the nation. ²⁷   The State is also one of the major centers of technology and information services, which makes its antiquated real estate licensing provisions both ironic and appalling.

California defines “real estate broker” broadly to include any person who, for a fee, “sells or offers to sell, buys or offers to buy, solicits prospective sellers or purchasers of, solicits or obtains listings of, or negotiates the purchase, sale or exchange of real property.” ²⁸   To make clear that the licensing law applies to anyone who simply lists or advertises properties for sale, a separate section of California’s code includes within the definition of real estate broker anyone who collects an advance fee “in connection with any employment undertaken to promote the sale or lease of real property . . . by advance fee listing, advertisement or other offering to sell, lease or exchange or rent property.” ²⁹   Individuals who violate these provisions by running print or online advertising services face fines of up to $10,000 and a jail term of up to six months per offense.  Companies that do so face fines of up to $50,000 per offense. ³⁰

Becoming a licensed real estate broker in California requires a substantial commitment of time and money.  Prospective licensees have two routes they can follow to obtain a license.  If they have a four-year college degree, they can take an additional year and a half of college-level courses in real estate practices and procedures.  If they do not already have a college degree, they must work as a licensed real estate salesperson for two years during which time they must take the college-level courses in real estate practices and procedures. ³¹   After taking one of these two routes, individuals then become eligible to take the brokers examination.  Only upon passing this exam may they act as a real estate broker or operate a company such as ForSaleByOwner.com. ³²

In fact, the California Real Estate Department has made perfectly clear that Internet advertising and information companies like ForSaleByOwner.com are not welcome in California unless they obtain a license.  In August 2001, the Department sent letters to a number of companies including ForSaleByOwner.com informing them that they must obtain brokers licenses in order to advertise properties in California. ³³   The Department of Real Estate’s website reflects this interpretation of the law. ³⁴   The Department also sent letters to a number of homeowners who were advertising their properties on ForSaleByOwner.com in an apparent attempt to frighten them away.  It worked; as a result of those letters, a number of ForSaleByOwner.com’s customers stopped using the service.

Of course, California does not require homeowners to obtain a license to advertise or sell their own homes. ³⁵   Nor does it require newspapers to become licensed real estate brokers in order to run real estate classified ads.  Although newspaper classified ads come within the definition of “real estate broker”—they charge advance fees to advertise or list the properties of others—California expressly exempts “newspapers of general circulation” from the provisions requiring licenses for advance fee listing services. ³⁶   The State of California either recognized that consumers do not need to be protected from classified advertisements or, more likely, that it could not possibly justify forcing newspapers to obtain government permission in the form of a license before publishing classified ads.  In either event, preventing Internet and print classified ad and information businesses from doing precisely what newspapers and homeowners themselves are permitted to do is arbitrary and irrational and cannot stand under the First Amendment.

The First Amendment and the Free Flow of Information

American prosperity, both political and economic, depends crucially on the free flow of information.  The First Amendment to the U.S. Constitution protects this prosperity by guaranteeing rights to speak and to listen, and to send and to receive information.  As the U.S. Supreme Court stated nearly 30 years ago, “[i]t is a matter of public interest that [economic] decisions, in the aggregate, be intelligent and well-informed.  To this end, the free flow of commercial information is indispensable.” ³⁷

California’s requirement that businesses like ForSaleByOwner.com obtain a license as a condition of doing business in the state violates the First Amendment in three ways.  It is an unconstitutional prior restraint on speech, it is an invalid regulation of commercial speech and it improperly discriminates against certain companies and individuals based solely on the media they use to convey information.

Prior Restraint

A prior restraint is a law that requires an individual to obtain permission from the government before speaking or conveying information.  The First Amendment was included in the Bill of Rights largely in response to British laws that imposed licensing requirements on the press. ³⁸   Thus, as the U.S. Supreme Court has stated, “prior restraints on speech and publication are the most serious and least tolerable infringement on First Amendment rights,” and government must meet an extremely high standard when it seeks to impose them. ³⁹

In Taucher v. Born, ⁴⁰ the Institute for Justice successfully challenged a provision of the Commodity Exchange Act as an unconstitutional prior restraint on free speech.  The Commodities Futures and Exchange Commission had tried to require publishers of investment newsletters and software to become registered investment advisers.  Relying on the Supreme Court’s decision in Lowe v. Securities and Exchange Commission, ⁴¹ the Institute and its clients argued that the registration provision was an unconstitutional prior restraint on the newsletter publishers’ freedom of speech and not, as the government contended, a permissible professional regulation.  Professional licensing laws may regulate free speech only where the professionals involved take the affairs of individual clients in hand and provide advice based on individual circumstances.  Thus, as the District Court in Taucher concluded, government may require attorneys and financial advisors to become licensed, but it may not require publishers of investment newsletters to do so. ⁴²

The same principle applies to businesses such as ForSaleByOwner.com.  ForSaleByOwner.com is not a real estate agent and there is no justification for treating it as such.  It provides advertising and information to willing consumers, just as newspapers and many real estate how-to books do.  It does not represent individuals or provide specific advice on particular transactions.  The State of California may not require ForSaleByOwner.com to obtain a license as a condition of publishing or operating its website any more than it may do so for newsletter and software publishers or newspapers.

Commercial Speech

For roughly 30 years, the U.S. Supreme Court has treated commercial speech, such as advertising and other speech that proposes a commercial transaction, as an important subset of free speech entitled to substantial protection under the Constitution. ⁴³   While government may regulate commercial speech in ways that it may not regulate fully protected non-commercial speech, it must have good and substantial reasons for regulating commercial speech and its laws must be reasonable. ⁴⁴   As the U.S. Supreme Court stated in a recent commercial speech case, “[i]f the First Amendment means anything, it means that regulating speech must be a last—not first—resort.” ⁴⁵

California has ignored this commonsense principle.  Requiring businesses like ForSaleByOwner.com to spend years and thousands of dollars to obtain training and experience they will not use is absurd.  California’s licensing law cuts a wide swath through the real estate market, capturing real estate brokers and non-brokers alike, and ultimately harms the very consumers it purports to benefit.

During the past decade, the U.S. Supreme Court has struck down many laws that regulated commercial speech in a similarly blunt and indiscriminate fashion.  The Court has ruled unconstitutional laws that banned news racks for commercial publications while allowing them for newspapers, ⁴⁶ laws that banned casino advertising ⁴⁷ and laws that prohibited pharmacies from advertising perfectly legal drug compounds, ⁴⁸ to name just a few.  California’s real estate licensing laws as applied to Internet and print advertisers deserve a similar fate.

Viewpoint Discrimination

Viewpoint or content discrimination exists when government prevents certain views or speakers from being heard but allows others.  The antipathy toward this type of regulation stems from the principle that government must not be permitted to censor unfavorable ideas or favor some speakers over others. ⁴⁹   As the Supreme Court stated in a recent case involving a ban on broadcast advertising, “decisions that select among speakers conveying virtually identical messages are in serious tension with the principles undergirding the First Amendment.” ⁵⁰

While California requires companies such as ForSaleByOwner.com to obtain a license in order to advertise homes for sale, newspapers are exempted from this requirement.  Of course, most newspapers in California have real estate classified ad sections.  Many of them offer online classifieds as well.  Yet all of them may operate these businesses without the necessity of spending years and thousands of dollars obtaining a brokers license.  This discriminatory treatment is pointless, absurd and unconstitutional.

The Plaintiffs

The lead plaintiff in this lawsuit is ForSaleByOwner.com Corp., a New York company that publishes and operates ForSaleByOwner.com, an Internet website that advertises properties for sale throughout the nation, including California.  Joining ForSaleByOwner.com is the company’s California affiliate, ForSaleByOwner.com Magazine, a real estate advertising magazine that publishes advertisements for properties in the Sacramento area.

ForSaleByOwner.com is, in essence, an online classified ad service.  The company charges a flat fee to property owners who want to advertise their properties for sale in the company’s nationwide database of properties.  Prospective purchasers can access the database through the website, www.ForSaleByOwner.com, and can search for and view properties for sale that meet their needs and interests.  Use of the website is free to anyone with a computer and access to the Internet.

ForSaleByOwner.com takes full advantage of the Internet and the unique advantages it offers in making information available to consumers.  The touchstone of the business is choice and flexibility in home selling without high broker commissions.  Homeowners are in complete control of their advertisements.  They decide what information is included and how the ads are written.  They can include descriptions of neighborhoods, pictures of their homes, and even online virtual tours.  They can access and update their ads at any time.  This choice and flexibility extends to prospective purchasers as well.  The database is fully searchable by location, price, size and other attributes.  Both sellers and buyers can also access volumes of free information the website makes available on neighborhoods, school systems and home prices, as well as how-to information on buying and selling homes.  The website also offers a database of vendors that provide related services, such as appraisers, mortgage companies and title insurance companies.  In areas where they are available, sellers can also advertise their property in print affiliates of ForSaleByOwner.com, such as ForSaleByOwner.com Magazine in Sacramento.  In short, ForSaleByOwner.com empowers homeowners and purchasers to buy and sell homes on their own at a cost far less than standard real estate commissions.

ForSaleByOwner.com was started by young Internet entrepreneur Damon Giglio.  In the late 1990s, Giglio worked for a venture capital firm that specialized in Internet companies.  Seeing the potential in an online real estate advertising business, Giglio convinced his firm to invest in a startup Internet company and later left and purchased ForSaleByOwner.com, which was little more than a web address at the time, from his former firm.  Giglio ran the company solo for roughly its first year of operation and then hired Colby Sambrotto, whom he had met while working in the venture capital firm, as ForSaleByOwner.com’s chief operating officer.  Together, the two young entrepreneurs capitalized on a growing network of local for-sale-by-owner magazines and built the company into one of the most successful Internet real estate advertising and information services in the nation.  A small business by most standards—the company employs roughly 20 people and has revenues of less than $3 million—it nonetheless boasts the broadest coverage and largest database of properties of any other company of its kind.

ForSaleByOwner.com Magazine is owned and operated by Jeff Chadbourne, a Sacramento-based small businessman who has worked in real estate related businesses for many years.  Chadbourne started the magazine in January 2003.

Litigation Team

The lead attorney in this case for the Institute for Justice is Steve Simpson, who litigates economic liberty and property cases nationwide.  Simpson is currently part of the litigation team representing wineries in the Institute’s challenge to New York’s ban on interstate direct shipping of wine, among other cases.  Prior to joining the Institute, Simpson was an associate in the litigation department of the international law firm Shearman & Sterling.  He will be joined by William H. Mellor, president and general counsel of the Institute for Justice and lead counsel in the Institute’s landmark victory against restrictive funeral licensing laws in Tennessee.  Assisting the Institute for Justice as local counsel are Colleen O’Brien and Daniel Kelleher of O’Brien & Kelleher, LLP, in Walnut Creek, Calif.

For more information contact:

John Kramer
Vice President for Communications
Institute for Justice
901 N. Glebe Road, Suite 900
Arlington, VA 22203
W: (703) 682-9320, ext. 205

Lisa Knepper
Director of Communications
Institute for Justice
901 N. Glebe Road, Suite 900
Arlington, VA 22203
W: (703) 682-9320, ext. 202