Real Estate Escalator Clauses — When Is It Time To Hop On Board?
Is the housing market so hot in your community that bidding wars are breaking out? If yes, you’re likely to meet a little something called an “escalator” clause, a bit of contract writing that may help you win a home — but at a price.
The way it works is that homes in Sellersville are in such demand buyers are lining up to bid first and bid the most. Not only are full-price offers standard, but such offers are contingent-free — there’s no requirement making the deal dependent on a home inspection, no demand for “seller contributions,” and no need to worry about interest rates; whatever the rate is, buyers will pay.
But if an owner receives several full-price, non-contingent offers, which is selected? One choice is to look at the offer which represents the best chance to close, the proposal made by someone who has lined-up financing or is even willing to make an all-cash bid.
But another choice works like this: Let the buyers work it out among themselves.
The way to do this is to say that all the offers are equal and interesting, therefore each would-be buyer is welcome to offer more money. The highest bid wins.
In hot markets brokers are telling buyers to prepare for such bidding wars and to anticipate the problem by using escalator clauses, contract language which says something like “in the event of multiple contract presentations for the property located at 12 Plum Street, I hereby increase my purchase offer by $1,000 (or whatever figure) above any alternative offer, providing that my maximum purchase price shall not exceed $426,000.”
In this situation the sellers will get a premium price for their property and the buyers will win the bidding war. Everyone should be elated.
Given that all houses are unique, there may well be good reasons for the use of escalator clauses: the buyer wants a house, homes in a given market are tough to find, and bidding more can assure a successful offer. And yet consumers need to use escalator clauses with care:
- How competitive are other offers? Do you want to use a price escalator to compete with all offers, or only like offers? For instance, the escalator clause above says the buyer’s offer will rise $1,000 if the sellers receive “any alternative offer.” But what if an alternative offer has both a high price and lots of contingencies? In such a case a non-contingent offer with a lower price might be more attractive to owners — or, seen another way, the use of an escalator clause might result in a bid which is needlessly inflated. A bidder might be better off saying the escalator goes into effect when pitted against a non-contingent offer or an offer with materially similar terms. Speak with a broker or attorney for details.
- Is the offer limited? In the language above, the bidder’s offer is qualified (“…my maximum purchase price shall not exceed $426,000.”) This is a key point, otherwise a seller might receive two bids with escalator clauses and no caps. The result would be great for the owner, but unnecessarily expensive for the buyer, and maybe even ruinous.
- How hot is the market? It may be that some pockets within Sellersville are hotter than others, or maybe not hot at all. Check with your broker to see in the immediate area where you have an interest how long homes are on the market and how sale prices and listing prices compare.
In some cases, brokers through a power of attorney are given the right to raise bids during the negotiation process without directly consulting buyers. The logic is that bargaining can often be fast-paced, and a buyer who is not physically available to approve a higher offer may lose out.
This is a potent opportunity for a conflict-of-interest because as the price goes up, so — in most cases — does the broker’s fee.
To protect themselves, the right of a broker to raise bids should certainly be capped. Leopold Rodriguez, an attorney and exclusive buyer agent in San Francisco and Marin County, also suggests that brokers with a power of attorney can reduce the potential for conflicts of interest by not taking a fee on a portion of the purchase price above a certain figure. In effect, a broker will not benefit from a higher sale price.
Another approach goes like this: If multiple offers are expected, take a car and sit outside the home or office where the owner is hearing contract presentations from brokers. If you need to modify your offer then have your broker call with a cell phone, think about what you want to do, and then if you elect authorize different terms right there.
Escalator clauses raise a series of issues that prospective buyers will want to discuss with a broker or attorney. In a hot market such language can be the key to a successful home bid, but as with all contract clauses they are best used when understood and discussed in advance.
————————
Published originally by Realty Times on August 8, 2000 and posted with permission.
© Copyright 