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What Is an Escalation Clause in Real Estate? When To Use One

Published on: June 24, 2022

what is an escalation clause in real estate

An escalation clause in real estate is a section in the contract where a potential homebuyer states that they’re willing to increase their offer if the seller ends up getting a higher bid. This type of clause tends to be more prevalent in a competitive housing market and may be necessary for buyers to have their offer accepted.

If you find yourself in a seller’s market, it’s best to learn what an escalation clause is in case you need to include one in an offer.

What is an escalation clause in real estate?

An escalation clause is written into a buyer’s purchase offer stating that the buyer will automatically increase the amount they bid on the house if there are competing offers. The purchase price offer may continue to increase until it reaches the maximum amount stated in the clause. 

More specifically, here’s what you’ll find in a typical price escalation clause:

  • The escalation amount: This amount is how much your purchase price offer will increase by. If the escalation amount is $5,000, then your offer goes up to $355,000 if there is a competing offer of $350,000. This amount will keep going up by $5,000 until it reaches your price cap, if it comes to that. 
  • Offer or price cap: This is the maximum amount you’re willing to bid on the home. 
  • Proof of competing offer: Buyers can include a requirement where the seller needs to provide proof they received a higher offer.

Escalation clauses aren’t always appropriate in every situation. It’s typically added if buyers are in an extremely competitive market — such as when there are more home buyers than homes being sold. You may also add an escalation clause if, in addition to being a seller’s market, you really want a home and want to increase the odds of the seller accepting your offer in a bidding war.

Keep in mind that just because you have an escalation clause in your purchase offer doesn’t mean you’ll come out on top. Your price cap could be lower than another buyer’s bid. Having the highest purchase price may not guarantee a seller will accept your offer either. There are many factors that a seller can consider, such as other contingency clauses or the closing timeline.

It’s a good idea to consult your real estate agent to determine whether it’s appropriate to include an escalation clause in your offer and whether there are other ways to put in a strong offer. If so, your real estate agent can help you craft one (or have a template on hand), or you may need to work with a real estate attorney to ensure you’re protected.

How it works: Escalation clause example

An escalation clause is triggered as soon as there’s a competing offer and the seller has proof of a legitimate offer from another buyer. Once triggered, your purchase price will automatically increase in increments stated in your escalation clause. The clause will continue to be triggered until it reaches your maximum price.

If another buyer also includes an escalation clause, both yours and theirs will be triggered, leading to automatic price increases until a price cap happens, and one buyer will win. 

As an escalation clause example, let’s say you put an offer on a home for $350,000 and decide to add an escalation clause that will increase your bid in increments of $1,500 above a higher offer until it reaches a maximum of $400,000. 

The seller receives another purchase offer of $355,000, so now your escalation clause kicks in and your offer goes up to $356,500. If there are no other offers, you’ll have the top one in this sample escalation clause. However, if another buyer makes an offer of $405,000, you won’t, as this offer amount exceeds your price cap.

When should you use an escalation clause?

Homebuyers should determine whether an escalation clause as a strategy to win a bidding war is the right move — otherwise, they could end up paying more than they’re comfortable with.

An escalation clause can be a smart idea if you want your offer to stand out. Putting in an escalation clause can show the seller you’re serious about buying the home and are willing to increase the purchase price when there are multiple offers. 

If you’re busy and don’t necessarily have time to communicate with your real estate agent multiple times a day, an escalation clause can help to simplify the purchase offer. Since the clause is automatically triggered, sellers know upfront what you’re willing to pay since the maximum price you’re willing to pay is explicitly stated. 

However, an escalation clause might not be a good idea if you don’t want to show your hand too easily. By having a maximum price stated in your purchase offer, the seller already knows your highest offer. Even if there aren’t additional bids, the seller could come back to you with a counter offer. And if this happens, you don’t have as much of an opportunity to negotiate, such as by offering other things aside from price (like waiving certain contingencies), that could sway the seller.

Plus, if you’re not certain there will be multiple offers on the home, an escalation clause may not be necessary. That’s why you’ll want to consult with your agent to determine whether you’ll face a lot of competition before drafting your purchase offer and determining your escalation clause strategy.

Benefits and drawbacks of escalation clauses in real estate

There are benefits and drawbacks of escalation clauses in real estate that you’ll want to know about before deciding to move forward with one.

Pros

  • An escalation clause can streamline the bidding process when buying a home, ensuring buyers are on top of putting up a higher purchase price if necessary.
  • Buyers won’t end up paying more than they want on a home due to the price cap.
  • An escalation clause protects buyers since sellers need to provide proof before the escalation clause kicks in.
  • Sellers can see that a buyer is serious about their offer, which can help in a hot market.

Cons

  • One of the biggest potential problems with an escalation clause is that the seller will know what the buyer’s maximum purchase amount will be. This could eliminate the buyer’s opportunity to negotiate.
  • Sellers can’t issue counter-offers to other buyers when they accept an escalation clause.
  • A home appraisal may come in much lower than the purchase price, which could lead to buyers backing out of the offer if they can’t secure financing.
  • A seller can still counteroffer on other factors if there are no other bids.

How to write an escalation clause

An escalation clause should be written into your purchase offer — your real estate agent or a real estate attorney can help you with drafting this clause properly. 

When writing an escalation clause, here’s what you should include:

  • When the escalation clause will be triggered, such as when the seller is able to provide bona fide proof that there is an offer by another buyer.
  • The amount by which you’re willing to increase your purchase price, typically in increments.
  • The highest amount you’re willing to pay for the home.

Want to learn more about drafting a real estate escalation clause? Talk to a local Finance of America Mortgage Advisor today.

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