Escalations – Climbing the Price Ladder in Competitive Situations

By now, we’ve all heard how crazy the Northern Virginia market is for buyers.  This is nothing new but the narrative continues to be that it is crazier by the spring season.  Buyers face intense competition in a market where low inventory has been, and continues to be, a huge problem.  So long as buyer demand exceeds housing stock supply, properties that are right-priced, well-located and in good condition will attract multiple offers. How can a buyer succeed when there is more than one offer?

Waiving contingencies helps.  So does a strong down payment and earnest money deposit.  A short closing is usually persuasive. At the end of the day, though, price remains king!  Yet buyers struggle with how to gauge the maximum price to offer, unsure where that cut-off may be.  That’s where escalations come in. Here, I’ll walk you through the ins and outs of escalations, from what they are to how to harness their power to maximum effect.

What is an escalation?

In a competitive situation, a buyer will need to offer a sales price higher than list price to prevail against other buyers.  One of the ways buyers can do that is by including an “Escalation Addendum” with their offer documents.  In Virginia, this is a simple one-page document that sets forth the highest sales price to which a buyer is willing to go and details the increments they would escalate to get to that ceiling price.  The escalation addendum is a part of the contract but will only be used if a seller uses it to push one buyer or another to a price above the stated offer sales price.

How much should I escalate?

There are different schools of thought in answer to this question.  Some realtors suggest going to a number above and beyond any comparable or reasonable threshold.  Their goal is simply to win.  I’ve heard the statement, “Go big or go home(less!)”.  So long as a buyer’s escalation increment goes above the next highest buyer, that buyer will prevail if the seller’s agent follows the escalation addendum exactly.  Realtors in that same school of thought will likely advise their buyer to include escalation increments that are larger, to the tune of anywhere from $5,000 to $25,000.

I take a more surgical approach to escalations.  Looking at comparables, assessing average escalations for the property’s neighborhood and considering the likely extent of competition for that property, I will give my buyers a suggested escalation price ceiling range and range of escalation increments.  I strive for my clients not to overpay, or to feel that they have overpaid.  Of course, I try to strike a balance between that goal and the objective to win.  Generally, I will advise a client to take a more modest approach to the escalation increment – if to win, you just need to beat out the next highest buyer to the tune of $2,000, why include an escalation increment of $25,000?  In that instance, you would have paid $23,000 more than you might need to.  By the same token, some sellers like to see buyers “go big” and will reward a buyer for those larger escalations.

How does the appraisal work with an escalation?

It’s all good and well for a buyer to say they’re going to escalate to some much higher final sales price.  But if the buyer keeps the appraisal contingency, they’re essentially adding a massive caveat to their escalation – that is, they’re telling the seller they’ll pay X higher price only if the appraised value comes in at or above that escalated sales price. Otherwise the buyer retains the right to re-negotiate the price or void the contract without penalty.

In competitive situations, where there are multiple offers with price escalations, a seller will likely choose the highest price offer only in combination with a waiver of the appraisal contingency at that escalated sales price.  In so doing, they guarantee themselves a sale at the escalated sales price without risk of re-negotiation or a contract being voided due to an under-appraisal.  Waiving the appraisal contingency with these large escalations is risky.  And most definitely not for the faint of heart. My job is to help my buyer clients assess the probability of an under-appraisal by examining closely recent comparables and the state of the market. 

What’s the proof that I needed to escalate?

Buyers always ask me – “How will we have proof that there was actually another offer that escalated us?”  There’s good news here!  The Escalation Addendum includes clear language that if the Addendum is used, the seller must provide a complete copy of the competing offer that escalated the buyer to whatever is the final escalated sales price.  This is a critical obligation as it not only gives the winning buyer necessary comfort but also gives insight into why the buyer beat out their competition.  Remember, a seller must provide a complete copy.  Not the first page of the Residential Sales Contract.  Not a copy of the competing Escalation Addendum.  Sometimes, realtors will try to play fast and loose with this obligation.  Don’t let them!

Remember though, it’s always possible that a seller’s agent will decide not to invoke the escalation addendums included in the competing offers.  Instead, the listing agent may circle back to all buyers’ agents with a request for a “best and final” offer from each buyer.  That’s the worst-case scenario for buyers that want the cover and protection that an Escalation Addendum provides.  My advice for navigating those situations will have to wait for a different blog!

Please be in touch if you’d like to discuss escalations in greater detail.

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