An escalation clause is a stipulation in a real estate contract that increases a buyer’s offer based on competing offers. Escalation clauses can make a buyer’s offer more competitive, oftentimes helping them secure their dream home.
When buying a home in a competitive real estate market, it’s a good idea to work with a real estate agent so you don’t miss out on options like this.
An escalation clause essentially tells the seller that you’re willing to pay over the asking price if they receive a higher competing offer. Escalation clauses include both the initial offer price and your final price, or price cap, that you’re willing to pay to win the sale. If the seller doesn’t receive a competing bid, your initial purchase offer price holds.
However, if the seller receives another offer with a higher price and they have accepted your escalation clause, you may still be in the race to purchase the property.
With an escalation clause in place, a competing offer will automatically increase your offer depending on the contract’s terms. The seller must show proof of a real bona fide offer to increase your final purchase price, so you don’t pay more unless someone else offers a higher price.
Including an escalation clause in your offer is easy. It simply involves adding an addendum to your initial offer. Work with your real estate agent to determine if an escalation clause is necessary to make your offer stand out.
It’s important to note that an escalation clause still doesn’t guarantee that you’ll get to buy the house. Even if the seller accepts your offer with an escalation clause, there are many things that can void a real estate deal.
A seller also doesn’t have to accept a contract with an escalator clause, even if it’s the highest price. Sellers can choose any potential buyer and offer they want for any reason.
For example, an all-cash offer may be more attractive to a seller than a contract with an escalation clause simply because the seller doesn’t have to deal with buyer financing. The seller’s process and preferences largely determine whose offer they accept.
The most common use of an escalation clause is to purchase a home in a competitive market. Many cities and counties today have limited supply and increasing demand, leading to an extremely competitive housing market. Sellers often receive multiple offers, which can make it difficult for buyers to purchase a home.
If you’re interested in buying a home that’s likely to get multiple offers, an escalation clause can help you win the sale without overpaying. Escalation clauses also show the seller that you’re very interested in purchasing their home, so much so that you’re willing to pay over the maximum amount to beat out competing offers.
Escalation clauses are also helpful in a bidding war. In a back-and-forth bidding war, buyers can offer more than they can afford simply to beat out other buyers. With an escalation clause, you don’t have to engage in this type of bidding.
Instead, you can set the maximum amount you’re willing to pay from the start of the offer. With an escalation clause, you’re also not locked into a higher price unless the seller receives multiple offers.
The National Association of Realtors (NAR) claims that more and more real estate agents are using escalation clauses to navigate today’s market. However, it’s common practice that the agent discuss the possibility with the listing agent before doing so.
An escalation clause doesn’t make sense if there aren’t multiple offers. Some sellers may also prefer a “highest and best bid” approach over offers with escalation clauses.
You’re shopping for a home and come across a property that has everything you want within your price range. The asking price for the home is $400,000.
You and your real estate agent decide to offer the full list price since you’re in a competitive market and the home is likely to receive multiple offers. However, in certain competitive markets, properties may sell for even higher than the list price. You really want the house, so you’re willing to offer more for it, but only if you need to.
So, your agent writes up an offer for $400,000 with an escalation clause of $5,000 increments to match or exceed a competing offer. You also set a maximum purchase price of $430,000. If the seller accepts your offer with the escalation clause and the property doesn’t receive any other offers, you’ll pay $400,000.
If the property receives an offer of $404,000, your escalation clause bumps your initial offer up to $405,000, making you the highest bidder. If another interested buyer offers $431,000, you’ll no longer have the highest bid price since your maximum offer was $430,000
An escalation clause can be an excellent way to make your offer stand out amongst others, but it doesn’t make sense in every buying situation. Before considering an escalation clause in your offer price, it’s important to consider the pros and cons, which include the following.
A few pros of using an escalation clause include the following:
A few considerations of escalation clauses in real estate include the following:
Escalation clauses can give your offer a competitive edge in market conditions with multiple bids. They can also improve your chances of an accepted offer. Potential buyers who really want a home that’s for sale and who are able to pay more may want to include an escalation clause.
A few precautions can help avoid some of the downsides of escalation clauses. If you decide to use an escalation clause, setting a maximum price is important. Otherwise, the escalation amount could continue increasing if the seller continues receiving higher offers.
Including an appraisal clause can also help protect your real estate contract. Essentially, this means that you’re willing to offer over your list price to your maximum amount. However, your highest price cannot exceed the appraised value of the home. That way, if the home doesn’t appraise, you won’t have to pay the difference out of pocket unless you want to.
You could also put a time limit on your real estate escalation clause. Essentially, this means that you will pay more in a situation with competing bids, but only for a short period of time. This prevents you from having to raise your offer while the seller waits for multiple interested offers.
However, a seller may be less willing to accept an offer with an escalation clause and a time limit. Some real estate experts suggest working with a real estate attorney if you’re considering an escalation clause.
The final sale price you offer to pay with an escalation clause shouldn’t exceed the amount of financing you’re eligible to borrow. You should also have a sufficient down payment saved up in case your escalator clauses are activated with numerous offers.