What is an escalation clause in real estate?

How these clauses work when you are buying a home

An escalation clause allows you to automatically increase the price you are willing to pay for a home in response to higher bids the seller receives from other buyers. These clauses can make your offer more competitive, especially in real estate markets where demand for houses is high and may help persuade sellers to accept your offer.

How does an escalation clause in real estate work?

Many homebuyers include escalation clauses in their offers to buy a house. Escalation clauses typically include these elements:

• Your initial offer. This is the amount you propose to pay the seller for their home. For example, you may offer an initial sale price of $350,000 to buy the home. If this is the best offer a seller receives, they may accept this price.
• How much you are willing to increase your bid. This part of the escalation clause defines how much you are willing to increase your bid in response to other higher offers. For example, your clause might state that you are willing to increase your offer by $5,000 over the price offered by another buyer. If the seller receives an offer of $360,000, your escalation clause would automatically raise your offer to $365,000.
• The maximum price you are willing to pay. This part of the escalation clause defines the upper limit of your offer. For example, your clause might limit your sale price to $400,000. This means if the seller received an offer for $395,000, your escalation clause would increase your offer to $400,000. But if the seller received an offer of $400,000, your clause would not increase your bid because its maximum sale price had been reached.
• Proof of higher offers from other buyers. This part of the escalation clause requires the seller to document a higher offer from another buyer is real and legitimate before they can claim a higher price from you.

The prices and amounts you may choose to include in your offer depend on the price of the home, your budget, how much you are willing to pay, and other factors.

What are the advantages of an escalation clause?

An escalation clause can help make your offer to buy a home more competitive, particularly in real estate markets in which sellers may receive multiple offers. These clauses show the seller you are serious about buying the house. They can make price negotiations faster and more efficient because the clause states under what conditions you will increase your bid and by how much.

Escalation clauses can help you avoid overpaying for a home. That’s because when you make an offer on a house, you don’t know how much other buyers may be offering. As a result, you may pay more than you need to pay.

For example, pretend you really want a house and bid $375,000 for it. Another buyer offers $360,000. Because your offer is higher, the seller accepts it. If you made an offer of $350,000 with an escalation clause stating you would increase your bid by $5,000 in response to a higher offer, then your bid would become $365,000. You might save $10,000 in this case.

Escalation clauses can help you avoid getting caught up in a bidding war and offering more for a home than you are comfortable paying.

Finally, escalation clauses can limit sellers from making counteroffers. If the seller accepts your offer with an escalation clause, and they receive no other offers at a higher price, they are obligated to accept your original price.

What are the disadvantages of an escalation clause?

One big disadvantage of an escalation clause is it tells sellers how much you are willing to pay for their house, which can give them an advantage in price negotiations. This is the reason real estate professionals frequently do not recommend you include an escalation clause unless you are confident the seller will receive multiple offers.

For example, if you make a $350,000 offer with an escalation clause that has a maximum bid of $400,000, then the seller knows you may be willing to pay up to $400,000 for their house. As a result, they may decide to reject your offer for $350,000 and make a counteroffer for $380,000 instead because they believe you will agree to this higher price.

Escalation clauses can also lead to situations in which the sale price of a home is higher than its appraised price. Lenders are often reluctant to offer you financing for more than a home is worth and might require you to increase your down payment or take other steps to get your mortgage application approved.

You can protect yourself from this by including an appraisal contingency in your offer which states the sale price of the home cannot be higher than its appraised value.

What happens when a seller receives multiple offers with escalation clauses?

When a seller receives more than one offer with an escalation clause, all the clauses are triggered, and buyer bids are automatically increased until the highest bid wins.

Will home sellers accept offers with escalation clauses?

A home seller may or may not accept offers with escalation clauses. Some sellers may prefer to receive single best offers from homebuyers. Others may agree to offers that include escalation clauses.

Is an escalation clause right for you?

When you are buying a house, think about whether including an escalation clause in your offer makes sense for you. Work with a real estate professional to help you decide and choose the amounts and conditions you include.

Last reviewed and updated October 2024 by Freedom Mortgage.