BILL ANALYSIS Ó AB 607 Page 1 Date of Hearing: April 14, 2015 ASSEMBLY COMMITTEE ON BUSINESS AND PROFESSIONS Susan Bonilla, Chair AB 607 (Dodd) - As Introduced February 24, 2015 SUBJECT: Real estate trust fund accounts: bond requirement. SUMMARY: Codifies Bureau of Real Estate (BRE) regulations allowing brokers to employ certain persons to manage real estate broker trust fund accounts, including non-real estate licensees, if the broker has fidelity bond coverage for the maximum amount of the trust fund account to which the employee has access to at any time, and authorizes the fidelity bond to have a deductible of up to 5%. EXISTING LAW 1)Provides for the licensure and regulation of real estate brokers and real estate salespersons by the (BRE) under the direction of the Real Estate Commissioner (Commissioner). (Business and Professions Code (BPC) Sections 10000 - 10580) 2)Prohibits any person from engaging in the business of, act in the capacity of, advertise as, or assume to act as a real estate broker or a real estate salesperson without first obtaining a real estate license. (BPC Section 10130) AB 607 Page 2 3)Defines a real estate broker, in part, as one who sells, buys, or who offers to sell or buy, solicits prospective sellers or purchasers of, solicits or obtains listings of, or negotiates the purchase, sale or exchange of real property or a business opportunity; or who leases or rents, or offers to lease or rent, places for rent, or solicits listings of places for rent, or solicits for prospective tenants, or negotiates the sale, purchase or exchanges of leases on real property or on a business opportunity, or collects rents from real property, or improvements thereon, or from business opportunities. (BPC Section 10131) 4)Requires a real estate broker, who accepts funds belonging to others in connection with a transaction, to deposit those funds in either a neutral escrow depository, into the hands of the broker's principal, or into a trust fund account, as specified, and requires all funds deposited by the broker in a trust fund account to be kept there until disbursed by the broker in accordance with instructions from the person entitled to the funds, as specified. (BPC Section 10145) 5)Authorizes withdrawals to be made from a trust fund account of an individual broker only upon the signature of the broker or one or more of the following persons if specifically authorized in writing by the broker: (10 CCR Section 2834(a)) a) A salesperson licensed to the broker. b) A person licensed as a broker who has entered into a written agreement pursuant to 10 CCR Section 2726 with the broker. c) An unlicensed employee of the broker with fidelity bond coverage at least equal to the maximum amount of the trust funds to which the employee has access at any time. THIS BILL AB 607 Page 3 1)Authorizes withdrawals from a trust fund account of an individual broker only upon signature of that broker, or one or more of the following persons if specifically authorized in writing by the individual broker: a) A real estate salesperson licensed under the broker; b) Another broker acting pursuant to a written agreement with the individual broker that conforms to the requirements of this part and any regulations; or, c) An unlicensed employee of the individual broker if the broker has fidelity bond coverage equal to at least the maximum amount of the trust funds to which the unlicensed employee has access to at any time. For purpose of this section, bonds providing coverage may be written with a deductible of up to five percent of the coverage amount. 2)Authorizes the Commissioner, by regulation, to require separate evidence of financial responsibility by the employing broker that is sufficient to protect members of the public against a loss subject to the deductible amount, if any. FISCAL EFFECT: Unknown. This bill is keyed fiscal by the Legislative Counsel. COMMENTS 1)Purpose. This bill is sponsored by the California Association of REALTORS. According to the author, "[This bill] would AB 607 Page 4 allow real estate broker trust accounts to operate more efficiently and better protect the public. Currently, real estate brokers can use unlicensed employees - like CPAs or professional bookkeepers - to manage their broker trust accounts. However, regulations make it very difficult to do so because the brokers must secure a zero deductible bond to cover the amount in the trust, and such zero deductible bonds are not generally available. Since CPAs and other professionals are ideally suited to manage these accounts, the public interest is hindered by this requirement. This bill would fix the problem by allowing brokers to obtain fidelity bonds with deductibles of up to [five]%. The bill ensures the public is well protected by giving the BRE the power to require evidence of financial responsibility from the broker to protect against a loss subject to the deductible." 2)Background. Trust Funds and Trust Accounts. Real estate brokers and salespersons receive trust funds in the normal course of doing business, on behalf of others, thereby creating a fiduciary responsibility to the funds' owners. Trust funds are money or other things of value received by a broker or salesperson on behalf of a principal or any other person, and which are held for the benefit of others in the performance of any acts for which a real estate license is required. Some examples are cash, a check used as a purchase deposit, or a personal note made payable to the seller. Trust accounts are set up as a means to separate trust funds from non-trust funds, and to separate a client's funds from the broker's own funds. A typical trust fund transaction begins with the broker or salesperson receiving trust funds from a principal in connection with the purchase or lease of real property. According to BPC Section 10145, trust funds received must be placed into the hands of the owners of the funds, into a neutral escrow deposit or into a trust account in the name of the broker, or in a fictitious name if the broker is the AB 607 Page 5 holder of a license bearing such fictitious name, as trustee at a bank or other financial institution not later than three business days following receipt of the funds by the broker or by the broker's salesperson. Real estate brokers keep trust accounts to deposit funds belonging to others that are not immediately deposited in a neutral escrow depository or with the broker's principal. Trust Account Withdrawals. Under BPC Section 10145, all funds deposited by a broker in a trust fund account are required to be maintained there until disbursed by the broker in accordance with instructions from the person entitled to the funds. Under 10 CCR Section 2834(a), withdrawals may be made from a trust account of an individual broker only upon the signature of the broker or one or more of the following persons if specifically authorized in writing by the broker: 1) a salesperson licensed to the broker; 2) a person licensed as a broker who entered into a written broker-salesperson agreement with the broker; or 3) an unlicensed employee of the broker with fidelity bond coverage at least equal to the maximum amount of the trust funds to which the employee has access at any time. With regard to the third type of person who may make withdrawals, existing law does not specify whether these bonds can or cannot have a deductible. However, the BRE has required that these bonds may not have a deductible based on the language which requires that the unlicensed employee have fidelity bond coverage at least equal to the maximum amount of the trust funds to which the employee has access. Fidelity Bond Coverage. Brokers and salespersons must handle, control and account for those trust funds according to established legal standards. Improper handling of trust funds is cause for revocation or suspension of a real estate license, and may also open the door to financial liability for damages incurred by clients. According to the author, real estate brokers often prefer to retain a CPA or skilled AB 607 Page 6 bookkeeper rather than a salesperson for the administration of larger real estate broker trust accounts. However, because CPAs and bookkeepers are not licensed, they must have fidelity bond coverage in the total amount they have access to, with a zero percent deductible. According to the author, real estate brokers have reported that insurers (bond companies) are unwilling or unable to sell the required fidelity bond coverage in amounts greater than $100,000 without a deductible. Given housing prices, these trust accounts routinely exceed $100,000 in total funds, so $100,000 policies are insufficient. As a result, brokers need trust fund bond coverage for financial professionals, but that requisite coverage is not available in the general marketplace. Under existing regulations, the only alternative to obtaining bond funding would be to require CPAs and bookkeepers to obtain real estate licenses, since salespersons licensed to the broker are not subject to the bond requirement. This bill would fix this problem by allowing fidelity bonds to have up to a 5% deductible, while also allowing the BRE to require evidence of financial responsibility by the employing broker sufficient to protect members of the public against a loss subject to the deductible. 3)Prior Related Legislation. AB 2602 (Lieu), Chapter 107, Statutes of 2006, authorized a commercial mortgage banker licensed as a real estate broker under the Real Estate Law to retain or arrange to allocate the interest earned on funds placed in an interest-bearing account, as specified. ARGUMENTS IN SUPPORT According to the California Association of REALTORS , "[BRE's] current regulations allow an unlicensed employee of a broker, such as a bookkeeper or Certified Public Accountant (CPA), to manage the broker's trust account if the employee has fidelity AB 607 Page 7 bond coverage that is equal to the maximum amount of funds to which the employee has access. This regulation is interpreted to mean that the bond must be a zero deductible bond. REALTORS have reported that bond companies will not send bond coverage exceeding $100,000 unless the bond contains a deductible, usually of 1-5%. This measure would, among other things, allow bonds for unlicensed employees to include a deductible of up to 5%. [This bill] creates the clarity needed to allow regulations to conform to the types of bonds available on the market. With the necessary fidelity bonds in place, REALTORS will be able to continue to employ skilled bookkeepers and CPAs to administer their trust accounts." According to the North Bay Association of REALTORS , "Insurers?do not sell [fidelity bond] coverage for more than $100,000 without a deductible. Current policy was established when homes in California rarely sold for more than $100,000 and consumer trust funds were almost always 100% protected. This bill provides the necessary mechanisms to address this problem. At the momeny, the only option for brokers to have coverage on their trust funds is to ensure that CPAs and bookkeepers have real estate licenses. This is because those with real estate licenses under the broker are not required to have the bond requirement - in reality, this requirement is infeasible?.it is essential that this policy is changed to ensure that insurance products are available to protect the funds entrusted by consumers to real estate brokerages." POLICY ISSUE FOR CONSIDERATION. Currently, the bill authorizes the Commissioner to require, via regulation, separate evidence of financial responsibility by the employing broker that is sufficient to protect members of the public against a loss subject to the deductible amount. Instead of waiting for this requirement to be adopted via regulations, which may delay the ability to implement this bill, if enacted, the author may wish to consider working with the Commissioner to place such language in the bill. AB 607 Page 8 ARGUMENTS IN OPPOSITION None on file. REGISTERED SUPPORT / OPPOSITION: Support California Association of REALTORS (sponsor) North Bay Association of REALTORS Opposition None on file. Analysis Prepared by:Eunie Linden / B. & P. / (916) 319-3301 AB 607 Page 9