I don’t accept these when I’m the listing agent because it’s not fair to the rest of the bidders.
Here’s what C.A.R. has to say:
Q1. What is an escalation clause?
A1. An escalation clause (also called a relative bid or “sharp” bid) is a provision added to an offer or counter offer where the buyer offers “X dollars more” than the next highest offer. For example, an offer that states, “The purchase price shall be $1,000 higher than any other offer,” contains an escalation clause.
Q2. Why make an offer with an escalation clause?
A2. The escalation clause allows the buyer to make the highest offer but only by the minimal amount necessary to beat out other offers. At first blush, it seems to be a savvy strategy.
Q3. If accepted, do such offers create enforceable contracts?
A3. Mostly likely, yes. Although no published case addresses escalation clauses in the context of a typical real estate offer/counter offer situation, the 1991 case of Carver v Teitsworth involved the enforcement of an escalation clause in the context of sealed bids for real property, one of which the seller was bound to accept when the bids were opened. The Court stated, “A relative bid may be valid, but only where a party expressly solicits relative bids or such bidding is objectively reasonable as being customary in a particular trade or industry.”
Based on this case, escalation clauses may create binding real estate contracts, depending upon custom in a particular trade or industry. While sealed bidding is not common, in many areas of the state, particularly those experiencing a “hot” or competitive market, it is not unusual or unexpected to see an offer with an escalation clause. Accordingly, there is a good chance if a seller accepts an offer with an escalation clause it would be considered objectively reasonable and will be enforceable.
Of course, unlike in the sealed bid situation present in the Carver case where the seller may have been surprised by the escalation clause, in a typical real estate offer/counter offer scenario, the seller is not bound to accept any particular offer and may accept, reject or counter any offer received. Further, in the absence of a confidentiality agreement, the seller may disclose one buyer’s offer to another in an effort to generate a higher sales price. These factors further favor the enforceability of an offer with an escalation clause voluntarily accepted by a seller in the typical context.
III. Contractual Considerations
Q4. Should there be a cap indicating the maximum price? For example, should the buyer offer “XXXX dollars more” than any other offer but “not to exceed” a certain maximum price?
A4. On the face of it, this seems like a good idea since it limits the buyer’s exposure to paying an exorbitant price in the event another buyer makes an outrageously high offer. But, on reflection, in the typical real estate scenario it has a fatal flaw. Once the buyer makes known the cap amount, the buyer has given away the maximum price at which they are willing to buy. If the seller has not received an offer as high as the maximum set by the escalation clause, the seller, armed with this information, can then simply counter at that maximum price or use it as leverage to get more from other prospective purchasers.
Either way there is a problem for buyers. Without the cap, they risk being bound to an outrageously high price. But with the cap, they’ve given away critical information to the seller about how much they are willing to pay.
Q5. Should there be a floor price establishing the minimum amount the buyer is offering to pay? For example, should the buyer offer “XXXX dollars or $1,000 higher than any other offer received, whichever is greater”?
A5. There are pros and cons to such a provision. On the plus side, in the event there is no competing offer, then the buyer’s offer, if accepted, would still create a binding contract. Thus, by including a floor price the buyer adds certainty to the offer that is the equivalent of an offer without an escalation clause. On the other hand, if no other offer matched the buyer’s floor price, the buyer will wind up paying more than if the buyer had only included an escalation clause.
There are different ways a buyer could make such an offer. It is not recommended to say, “$XXXX or $1,000 higher than any other offer received” since it is unclear which is being offered, the fixed price or the escalation price? Such an offer could be interpreted as ambiguous and be unenforceable. Instead, the offer might state, “$XXXX or $1,000 higher than any other offer received, whichever is greater.” Or another way to say this is, “$1,000 higher than any other offer received, but no less than $XXXX.” With this type of wording the buyer is more clearly committing to a minimum price while at the same time more clearly indicating a willingness to pay more, but only if needed.
Q6. Should the buyer include a provision that allows for verification of the next highest competing offer?
A6. Yes. Since the buyer is making an offer dependent upon the offers of other buyers, it makes sense that the buyer should be able to verify that those other offers were in fact bona fide offers. The buyer may include language such as: “Seller shall, upon acceptance, provide buyer with a copy of the highest offer received. Buyer has a right to contact that prospective purchaser making that offer, or his or her agent, to verify the validity of that offer and that the other offer is in fact a bona fide offer.”
While the listing agent may be uncomfortable handing over another buyer’s offer to the accepted buyer with the escalation clause, the NAR Code of Ethics provides that, in general, offers are not confidential, and both the price and terms may legally be disclosed to other buyers unless all parties and their agent have signed a written confidentiality agreement (such as C.A.R. form CND). Even a listing agent acting as a dual agent might be able to reveal details of an in-house buyer’s offer where the in-house buyer has consented to such by signing C.A.R. form PRBS (“Possible Representation of More Than One Buyer or Seller – Disclosure and Consent”) or form SBSA (“Statewide Buyer and Seller Advisory”).
Q7. What happens if all buyers, or even two or more buyers, make offers with escalation clauses at the same time?
A7. In this situation, there is a chance that the seller’s acceptance will not result in the creation of a binding contract. A contract can only be created where there is an objective way of arriving at a discernable price. If more than one buyer includes an escalation clause, it is unclear which offer is used as the basis for calculating the escalation clause. It could be the next highest fixed price offer, or it could be the other escalation offer. If the latter, then there is a never ending escalation (where neither escalation offer has a cap or maximum price). Should this situation arise, rather than accept one of the multiple escalation offers, the seller would be well-advised to issue multiple counter offers.
IV. Risk Management Approach
Q8. Should the buyer be cautioned against making an offer with an escalation clause?
A8. Yes. Given that the enforceability of such a contract is not 100% assured, and given the potential pitfalls as discussed in the previous questions, the buyer should be advised to speak with their own legal counsel prior to making such an offer.
Q9. Can a broker adopt a policy discouraging the use of escalation clauses since such offers may lead to disputes, especially in light of the complications in drafting such a provision?
A9. Yes. State law requires brokers to adopt policies and procedures for their office. Certainly, there would be nothing improper for a broker to adopt a policy discouraging the use of escalation clauses in offers. Another possibility is that a broker could adopt a policy prohibiting their agents from writing such a provision thereby placing the onus upon the buyer directly, or more appropriately, on the buyer’s attorney to draft this type of offer.
Q10. Where can I obtain additional information?
A10. This legal article is just one of the many legal publications and services offered by C.A.R. to its members. For a complete listing of C.A.R.’s legal products and services, please visit car.org/legal.
Readers who require specific advice should consult an attorney.
In the spirit of fair play, this isn’t right. But in a market where buyers get tired of losing, you can’t blame them for trying alternatives. Agents should have a standard policy/strategy on how to handle the escalation clause – get good help!
Katrine and Stephen Campbell were up against stiff competition from 10 other bidders for the Reading home they wanted to buy. So the couple tried an aggressive strategy to give them an edge: Instead of making a specific offer, they promised to top whatever turned out to be the high bid by an additional $5,000.
The increasingly popular tactic, known as an escalation clause, worked. The Campbells bought the four-bedroom house late last year for $597,000 — or $18,000 above the original list price, including the extra $5,000.
“We must have looked at 50 places before making a bid on a house,” said Katrine Campbell. “We made only one offer — and we got it. The escalation clause gave us an edge.”
In a sign of how competitive the Boston-area housing market has become, the maneuver is becoming part of the area’s bidding war landscape, brokers and other real estate executives say. Some report there hasn’t been this much escalation clause activity since the last house-buying frenzy 10 years ago.
There are several kinds of escalation clauses, but all involve an agreement to top the high bid on a home by a set amount of money — often $5,000, and sometimes more.
Potential buyers who offer such arrangements usually insist on a brief amount of time, an hour or less, to follow through or to back out once a top bid has been established.
Skeptics say the clauses are potentially risky and a needless ploy that could backfire by alienating some sellers. It can also lead to disputes about whether buyers or sellers have complied with escalation clause terms, they say.
“It’s a tactic that’s not going to appeal to everyone,” said Peter Ruffini, a regional vice president at Jack Conway Realty in Norwell and president of the Massachusetts Association of Realtors.
“It sounds a little risky to me. It sounds sort of like issuing a blank check to sellers.”
A common ploy used to win a bidding war is the “escalation clause”. One of the agents in the Arroyo Hondo bidding war included this phrase as part of his highest-and-best offer price:
Buyer will pay $5,000 over the highest offer.
The escalation clause is an accepted form of negotiating, because most agents don’t give it much thought – it’s just looks like another trick in an environment full of gimmickry. I think most listing agents would allow it to determine the winner too.
I didn’t. Why not?
In a $1,110,000 sale, every buyer would pay $5,000 more to win.
I had already gone around the horn with each agent to get them to submit their highest-and-best offers, and I didn’t want to jostle them more and risk losing them. Buyers don’t like bidding wars, and if they feel like they are being played, they might bail – which isn’t good for the seller.
The escalating buyer may be a reluctant buyer, because he got stuck with somebody else’s price + $5,000. I don’t want him to blow out later, or load up on repair requests out of spite.
Buyers deserve a fair contest.
I discussed it with my seller, and he agreed – no escalation clause. I relayed that to the escalating agent, and told him that his current price was in last place, and to feel free to submit a higher number. They didn’t, which made me think that they might not have closed if they felt like they got stuck with a much higher price point.
I think listing agents should consider the pitfalls before employing any exotic terms – but do they think it out? My goal is to close the original escrow, because if the first deal blows up, you can’t predict that the next one will be at the same price – and historically they are usually less.
Here are other realtor viewpoints – note the cavalier attitudes:
Their comments show how the typical listing agent thinks – that the highest price automatically wins. If you are a buyer, it might be worth trying if you think that the listing agent is weak and inexperienced, but if you are on the seller’s side, give it some careful thought.
Yesterday, I had two similar occurrences take place so it must mean I should address it!
This comment was left here on the blog:
I just wanted to thank you for your bidding war info. I have followed your blog for many years. We listed our house in Ramona last week and had open house on Fri/Sat. By Monday morning we had six offers. The highest was a very good offer and well over list. The realtor encouraged us to take that one, and said she had asked everyone for highest and best. I pushed her to counter the next two lower offers with the same amount as the first offer and gave permission for her to reveal the offer amount. She was hesitant but I insisted. Both of them came back with the same amount as the highest offer, and the highest original offer then went higher through an escalation clause. I know we don’t have the same prices as NSDCC, but the same principle applies and I wanted to give you credit. MC
MC – thank you for giving me credit!
But did you recognize that his agent’s results aren’t exactly the way I do it?
There are probably blog readers who are emboldened by what they read here. Selling homes doesn’t look that hard, and in a hot market it has to be even easier, right? After listening to me talk about it for a few weeks, it’s probably natural to think you can do it yourself, or direct your agent how to do it.
Are you guessing that MC probably didn’t get top dollar?
The other occurrence was a for-sale-by-owner who suggested he was as good as me – and insinuated that he was better. He will sell his house too, and declare it as top-dollar to feed his ego. But his listing is riddled with things I’d never do, and he’s been on the market for 2-3 weeks with no sale.
ANYBODY CAN SELL THEIR HOUSE THEMSELVES!
You don’t need me – heck, just go stick a sign in the front yard and wait for the phone to ring.
But you’re not going to sell it for the same price that I can get.
Even if you read every word on this blog, it’s not enough. It’s because the most important part of my job is doing one thing really well:
Asking the right questions, the right way, at the right time.
Even if you had the questions, it’s asking them the right way, at the right time, that causes a top-dollar sale.
You can tell that MC was on the right track, but in the heat of the moment, his agent didn’t handle it like I do. But he’s happy, the agent is happy, and they sold it for more money than expected, so all is well. But it didn’t sell for top dollar – which only happens when you ask the questions the right way, at the right time.
Not only will I sell your house for more money than you can, I will sell it for more than virtually all the other realtors. I’m not your typical order-taker; I’m a professional salesman who practices his sales skills daily. Those skills really pay off in the heat of the moment, when I sense that the buyer or their agent is a contender – I know how to say the right thing, the right way, at the right time to capitalize on the moment. Who would you trust in that moment?
It looks easy, but you don’t know what you don’t know.
Wouldn’t you be better served to have Jim the Realtor in your corner?
When thinking about selling, homeowners (especially the long-timers) complain about paying the capital-gains tax on their net profit above the $250,000 exemption per person. With the rapid escalation in values lately, it has turned into a six-figure tax for many!
Here’s something to think about and I’ll give credit to Doug because it’s been one of the main reasons he has wanted to move. The problem is that people don’t move enough.
Want to avoid paying capital-gains tax?
You should move every time your equity approaches the exemption amount!
The last big frenzy in the early-2000s was fueled by people taking advantage of their tax-free profits by moving repeatedly, and getting rich in the process.
It’s when I came up with my favorite motto:
Don’t Unpack, I’ll Be Back!
Of course, I think everyone should move every 6-12 months – it’s exciting!
We received the five offers and completed the highest-and-best round with all.
On the way over to the sellers’ house to discuss the results with them in person, Offer #6 arrives by email – and it’s all-cash with an escalation clause, which makes it a real contender. We have a horse race now!
Most agents would jump on the offer with the escalation clause, and call it a day.
But I had already discussed with agent of Offer #1 that escalation clauses aren’t fair to the losers – because every buyer at this price point would gladly pay an extra $5,000 to $10,000 extra to win.
With the sellers’ permission, I tempted #1 to raise their offer again – for the third time – after telling them about the cash offer. After a brief deliberation, they declined.
The cash offer was completing a 1031 exchange, and their relinquished property had already closed escrow – which means that they were in their 45-day identification period. Buyers in that position are feeling the pressure, and they have to buy something. If they don’t identify up to three properties within the 45 days that they might purchase over the next four months (they have six months from their escrow close date), then they will be forced pay capital-gains tax on that previous rental property.
Time is of the essence!
It is crucial for me to ‘read the room’. I’ve exhausted the other buyers #1-5, and the sellers are ready to sell their house. How much farther can I push it with the cash offer?
Rather than go back and forth with my auction format, we decided to just counter $50,000 higher, at $2,150,000, to the cash offer, instead of using the escalation clause. I called it in to their agent and told him that if that was acceptable, we’d send him a signed counter right away.
But then 90 minutes went by with no response.
We have an acceptable offer on the table with owner-occupants (those are more likely to close) and a good agent. The sellers had baked cookies and swapped stories with us for over an hour as we analyzed the different angles, and it was time to make the deal. During that time, the sellers got more comfortable with foregoing the extra $50,000 and opt for the sale that’s more likely to close.
I told the agent of the cash-offer that we were taking the other deal.
It happens regularly that sales are won and lost in hours, if not minutes. No lollygagging!
‘Deceleration’ at +24.9% YoY compared to when our market was just ramping up for the year-end frenzy of 2020? I’ll take it!
San Diego Non-Seasonally-Adjusted CSI changes
“If I had to choose only one word to describe September 2021?s housing price data, the word would be ‘deceleration,’ says Craig Lazzara, managing director at S&P Dow Jones Indices. “Housing prices continued to show remarkable strength in September, though the pace of price increases declined slightly.”
Extremely tight inventory, as well as heavy investor activity in the housing market, is keeping prices elevated. While the gains are falling, it is unlikely that prices will drop dramatically as they did during the housing crash. The fundamentals of supply and demand still favor an expensive market.
“The market has cooled since the beginning of the year, when dozens of competing bids, contingency waivers and price escalation clauses made home shopping a struggle, especially for first-time buyers. A growing number of homeowners are preparing to list in the next six months, hinting at an uncharacteristically active winter season,” said George Ratiu, manager of economic research at Realtor.com.
NEW YORK, July 29 (Reuters) – Beset by COVID-19 and its fallout, local landlords are offloading their properties to cash-rich institutional investors, and America’s real-estate market may never be the same.
Before the pandemic, boyhood friends Michael Murano and Richard Tyson owned 96 rental units in their hometown of Rochester, New York. They offered accommodation to low-income tenants, many in the service industry, from rooming houses to single-family starter homes.
Today, they’re well on their way to liquidating the entire portfolio. Two-thirds of the units are already gone. The buyers? Large investors with all-cash offers.
“It broke my heart to sell 15 single-family homes to just one, out-of-state big corporate investor,” said Tyson, a 38-year-old U.S. Navy veteran.
“The last thing we need is to be exporting wealth out of this community, and limiting wealth creation here. But I knew we had to get the hell out of affordable housing – fast – because this was going to be a tidal wave coming at us.”
Many of America’s landlords have gone a year and a half without being paid by tenants, who’ve been protected by several state and local eviction moratoria as well as an umbrella federal ban enacted 11 months ago.
The owners have been waiting for $46 billion to help them survive without that income. The funds were approved by Congress months ago, but bureaucracy creaks; only $3 billion has reached them so far, according to U.S. Treasury Department data.
Now the eviction ban is about to end – on Saturday. Yet thousands of local landlords have already quit the business. And a growing number, like Tyson and Murano, are on their way out.
Taking their place: institutional investors, broadly defined in the industry as firms owning more than 1,000 units.
Let’s review how some listing agents have been handling their bidding wars in 2021.
Ignored a $60,000 non-refundable deposit and took an offer that was $40,000 lower.
Once they get to the highest offer, they insert their own buyer at the same price.
Let an escalation clause determine the winner, and ignore the others.
Counter for highest-and-best, then pick a winner before everyone responds.
Not respond at all.
There are no rules. No guidelines. No laws.
The best our association can do is to issue a spreadsheet form.
Thus, anything goes.
Here’s how I handle it.
The home on Galena Canyon had originally listed for $1,599,000 and had 25 showings and six offers over the first weekend in March. We had three buyers (one was contingent) who were willing to pay around $1,750,000, so I asked the two non-contingent buyers to make their second highest-and-best offer to determine the winner – which they did, and $1,770,000 won it. I changed the list price in the MLS to $1,770,000, and marked it pending.
Last Friday morning, the buyer had an unforeseen glitch, and we fell out of escrow. We go back on the open market for Easter weekend, hoping for the best – knowing that the urgency is much higher when the listing is new and fresh.
I had added this to the confidential remarks:
Since we hit the market, these have happened: 16175 Deer Ridge 3,451sf closed for $1,775,000 on March 1st. 15288 Cayenne Creek 3,877sf closed for $1,800,000 on March 30th. 16342 Cayenne Creek 3,446sf pending, listed for $1,825,000. 9716 Wren Bluff 3,780sf pending, listed for $1,835,000. Plus Mark listed one for $2,795,000 around the corner. Built-in equity!
This time, we had six showings and three offers over list, which I thought was pretty good.
I had told the agents to make their highest-and-best offer, and while they were all competitive, I thought there might be more gas in the tank. So I politely asked all three to H&B again, and one emerged from the others by packing another $40,000 onto their first offer.
We are in escrow at $1,840,000, after starting at $1,599,000 a month ago.
Isn’t that the result you’d like to see for yourself, or someone you know?
It is not a given how listing agents handle a bidding war. Most agents just grab their favorite, and turn off their phone. You deserve better.
If you, or someone you know, is thinking of selling, I’d sure appreciate a call!