Escalation Addendum 101

Hope everyone is enjoying the beautiful fall weather while it lasts in the DMV. Today we are going to dive into the escalation addendum, which is usually included as part of an offer in a competitive situation. It is beneficial for both buyers and sellers alike to understand this form, as buyers will likely include one in their offers and sellers will often receive them when reviewing offers.

The purpose of an escalation addendum is to be able to increase your offer price as a buyer, without having to make an outright jump to a higher price point. Within the addendum, a buyer will need to indicate a cap, meaning a maximum sales price, and in what increments they are willing to escalate over another offer. In order for the escalation addendum to kick in, the seller has to be able to provide to the buyer the other offer that created the escalated outcome.

So to throw in a hypothetical, let’s say we have a house listed at $800,000, but it is a multiple-offer situation and we know that it will likely go for higher than the listed price – in this scenario I would usually recommend including as escalation addendum. A buyer can decide to escalate to $820,000 for example (or any number over list price) in increments of $2,000, $2,500, $5,000, $10,000 (or even greater). Much of this decision would be dependent on price point and competition, and your agent should be able to give you a recommendation based your comfort level as the buyer. In the height of the spring market, we were seeing escalations as high as 15% over the listed price and now we are back down to offers at list, so these numbers will be very season and situational.

Let’s further dive into a hypothetical. Let’s say Bob puts in an offer at $800,000, with an escalation to $820,000 in increments of $2,500. In addition, Norene puts in an offer at $805,000 and Leslie puts in an offer at $810,000. Bob’s offer would automatically increase to $2,500 above the next highest offer, so in this case to $812,500.

Another examples using Bob’s offer – again he puts in an offer at $800,000 with escalation of $820,000 in increments of $2,500. In this scenario, Bill puts in an offer also of $800,000 but escalates to $810,000. In this situation, Bob’s offer would increase to $2,500 above the other escalation, ultimately coming to $812,500.

Final hypothetical, same scenario for Bob. Let’s say the highest competing offer is from Betty and caps at $818,000. In this scenario, Bob’s offer would be pushed to its cap at $820,000 since this is the highest he indicated he is willing to go. All of these scenarios are assuming that Bob’s offer is selected.

The pros of using this addendum for a buyer are fairly obvious. It is nice to be able to escalate up only if necessary, and it’s a little less risky than jumping straight up to a higher offer price. But what are the cons, you might ask? Keep in mind (and if you’ve read my other blog posts you’ve heard this before), price point isn’t always the most important term to a seller. The escalating increment is key with an escalation addendum. The larger the escalating increment, the the stronger the offer. Here’s why:

Let’s say Bob puts in that same offer at $800,000, but in this scenario he escalates to $820,000 in increments of $2,000. Though this piece is strong, he includes lengthy home inspection, appraisal, and financing contingencies, so the rest of his offer is mediocre. Bill puts in an offer at $810,000 but waives his home inspection and appraisal contingencies, and has quick turnaround on his financing contingency. In this case, Bob’s offer would only escalate to $812,000, so is the extra $2,000 dollars worth it to the seller to give the buyer the opportunity for home inspection and appraisal contingencies? May be it is, may it isn’t. It’s all dependent on what the seller values, and in many scenarios he/she may decide to take the lower offer to have a smoother experience. (i.e. no repairs and less risk of a low appraisal).

On some occasions when it is highly competitive, it also may benefit the buyer to leave out the escalation addendum and jump straight to the maximum sales price they are willing to go to as the original offer price, indicating to the seller just how committed they are (especially if we are fairly confident the situation will be escalating to that number regardless). You will want to consult with your trusted Realtor when making this decision.

One other point to bring up regarding the escalation addendum. Within this form, the buyer will have to decide whether or not he/she would like to retain or waive the appraisal contingency. Keep in mind if a buyer escalates above list and waives the appraisal contingency, this is a strong move. I’m not necessarily encouraging this decision, but many of times when the market is super competitive (mainly during the spring) this may be just the trick to beat out your competition.

My concluding thoughts are these – it is really important that you work with a good Realtor to determine what terms to write into an offer and whether or not to include an escalation addendum. Your agent should educate you, as the buyer, on what the market data and recent sales support in terms of price point, and in addition give you insight as to what they believe the situation may escalate up to based on intel provided by the listing agent and current market conditions. Keep in mind, Realtors are not fortune tellers, but they should have enough knowledge of the current market to help you make your best possible offer given the situation.

Happy house hunting!

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