Escalation Clause Guide

Table of Contents

What Is An Escalation Clause?
How To Write an Escalation Clause
Real Estate Escalation Clause Example
Escalation Clause Pros and Cons
When To Use a Real Estate Escalation Clause
Is an Escalation Clause a Good Idea?
Real Estate Escalation Clause Tips
Escalation Clause Bottom Line

What Is An Escalation Clause?

A real estate escalation clause (also known as an escalator clause) is a provision contained within a contract that allows prospective buyers to increase, or escalate, an existing offer. Escalation clauses will typically state that a buyer's offer will increase upon the submission of a higher offer by a different buyer.  

Escalation clauses indicate the seriousness of an offer, usually stating how much a buyer is willing to bid in order to purchase the property. They essentially allow you to offer slightly more than any other submission after your initial offer. 

Escalation clauses are usually written into the underwriting offers, and they are a great tool for buyers in competitive markets. If you are worried about another buyer making a higher offer on the home, an escalation clause is a great way to ensure you can still purchase the property.   

How an Escalation Clause Works

1. Initial Offer: The buyer submits an initial offer on the property.
2. Automatic Increase: The escalation clause specifies that if another buyer submits a higher offer, the original buyer's offer will automatically increase by a predetermined amount above the competing offer.
3. Cap: The clause includes a maximum price (cap) that the buyer is willing to pay, ensuring the offer does not exceed this limit.

How To Write an Escalation Clause

1. Start With the Initial Purchase Price Offer
2. Write Deails on Escalation Increments
3. Include Your Maximum Purchase Price

1. Start With the Initial Purchase Price Offer

A real estate escalation clause should always start off with the initial offer. You'll include the purchase price as well as any other terms and contingencies that are part of the offer. For example, if you want to offer $500,000 for the home, that would be your initial offer in the escalation clause. 

2. Write Details on Escalation Increments

Another key element of an escalation clause is the increments by which the offer will escalate. For example, your offer might escalate by $10,000 or $25,000, or $50,000. The escalator amount is up to you and usually depends on the price of the home. You'll also need to determine how the escalator is triggered. To prevent the seller from pretending they've received a higher offer, you should require proof of any other offers that exceed yours. 

3. Include Your Maximum Purchase Price

Finally, your escalation clause will need to include your maximum purchase price. If you're financing the home, you'll want to consider how much your lender has pre-approved you for. For example, if you are willing to pay up to $550,000 for the home, your escalation clause would state that is your maximum purchase price.  

Real Estate Escalation Clause Example

So, for example, say you find your ideal home and put an offer in for $300,000; an escalation clause that was written into the contract allows you to beat any subsequent offer larger than yours in increments of $5000, up to $320,000. If no other offers are submitted on the home, your original offer stands at $300,000. However, in this scenario, Buyer John then puts an offer in for $305,000. Thankfully, because of your escalation clause, you can now beat his offer according to the terms of your contract, bringing your new bid to $310,000. In this case, if the bidding stops there, you would have the best offer on the home.

Let’s now escalate the circumstances. If Bill puts in an offer for $325,000, you’re unfortunately out of luck, as your escalation clause only determines you can bid up to your specified maximum amount of $320,000. So here, since your escalation clause has been exceeded, Bill would have the top offer, and you would lose the bid on the house. 

Escalation Clause Pros and Cons

Pros of an Escalation Clause

1. Increases Competitiveness: Makes the buyer's offer more competitive in a hot market with multiple offers.
2. Simplicity: Eliminates the need for the buyer to constantly adjust their offer in response to other bids.
3. Transparency: Provides a clear and automatic mechanism for increasing the offer.

Cons of an Escalation Clause

1. Reveals Willingness to Pay: Discloses to the seller the maximum price the buyer is willing to pay, which can be a disadvantage in negotiations.
2. May Discourage Sellers: Some sellers may prefer straightforward offers and may be deterred by the complexity of an escalation clause.
3. Verification Requirements: Requires the seller to provide proof of competing offers, which can sometimes be contentious.

When To Use a Real Estate Escalation Clause

Escalation clauses are typically used when a home or property is of great interest to an individual buyer or highly sought after in the market. If there are a lot of different people vying to purchase the same property, it might be a good idea to include an escalation clause in your contract to increase your chances of procuring the sale. As a buyer, it can also be extremely valuable to indicate how committed you are to a deal. 

Is an Escalation Clause a Good Idea?

Using an escalation clause is a good idea if you really want to get a property. It will help you win a potential bidding war and also shows the seller how serious you are about buying the property. 

But while it may seem like a good idea to always include escalation clauses “just in case,” there are times when it can be a disadvantage. It’s only advisable to include an escalation clause if the buyer or their real estate agent is confident that there will be multiple competitive offers on a house because its inclusion downplays the power of any negotiations. This makes perfect sense, as an escalation clause indicates to the seller just how much the property is desired and how much a buyer is willing to pay for it.

If no additional offers are made on a home, but an escalation clause has been included in the contract, the original offer still stands. However, the seller may counter-offer, as the escalation clause has made them aware that the buyer is in a position where they are willing to pay a higher amount to purchase the home.

Real Estate Escalation Clause Tips

It should also be noted that it is entirely up to the seller whether or not they will accept an escalator clause. In some cases, sellers prefer that buyers simply put in original offers for what they’re willing to pay for the property. Sellers may also not want to deal with the confusion and increased time it takes to process multiple offers. But generally speaking, under the right circumstances, escalation clauses work highly in a seller’s favor, as they almost always guarantee they will secure the highest possible purchase price for their home.

Buyers who submit escalation clauses are making an unequivocal statement as to the maximum they are willing to offer on a home. Say your initial bid is $410,000, but you put in an escalation clause that allows you to counter-bid up to $430,000. If no other bids are put in on the home, your initial offer stands. However, you have made it clear through the clause to the seller that you have the means and are willing to pay $20,000 more than your offer to buy the home. This leaves the door open for the seller to counter-offer, knowing that you are capable of paying a higher price. Consequently, if you then choose not to accept the counteroffer, it could cause you to lose the home, as the seller may then decide to leave the house on the market in the hopes of obtaining a new, better bid. This is the main reason why it’s not a good idea to automatically include an escalation clause in your offer unless you are sure it will be necessary. 

Escalation Clause Bottom Line

An escalation clause can be a powerful tool in a competitive real estate market, allowing buyers to automatically increase their offers to stay ahead of other potential buyers. It simplifies the bidding process and can increase a buyer's chances of securing the property. However, buyers should be aware of the potential drawbacks, including revealing their maximum willingness to pay and the possibility of deterring some sellers. As always, it's advisable to consult with a real estate professional to determine if an escalation clause is appropriate for your specific situation.