Contingencies, Multiple offers, Highest & Best, and the Escalation Clause
Real estate transactions contain a myriad of words and phrases that your Realtor will readily understand, but you might not immediately recognize. While your real estate agent should explain and define all parts of the contract, not all do. Here are some of the most commonly asked about parts of the contract and real estate transactions!
What are Real Estate Contingencies?
In a real estate contract, a contingency is a clause that gives either party, or both parties, the ability to back out of the contract based on certain conditions. The sale of the home or property is therefore contingent, or depending upon, those conditions. There are lots of different types of contingencies.
Appraisal Contingency - This is a safeguard for the buyer. It states that a home must appraise for at least the sales price listed on the contract. If the home is being financed (as most are), the bank will not loan the buyer the money for the home if it doesn’t find it to be valued at the sales price. Essentially, a bank won’t loan more than what a house is worth.
Home Inspection Contingency - After a buyer goes under contract on a home, they have a window of time to have all their inspections completed. These inspections ensure there’s no major issues that would affect the value of the home, like a faulty electrical system or structural defects. If the seller decides not to repair or credit any issues the buyer finds, the buyer has the right to cancel the contract.
Sale of Prior Home Contingency - When a buyer uses the proceeds from the sale of their current home to pay for the purchase of their next home, the buy can use this clause. If they list their old home for sale after going under contract on a new home and the old home doesn’t sell by the contingency deadline they can back out of the contract on the new home.
Mortgage Contingency - This clause protects the seller. The buyer has a certain amount of time to obtain a loan that is clear to close. If the buyer doesn’t obtain a loan within that time, a seller can cancel the contract without penalty and re-list their home for sale.
Having any contingency could lower the chances of a buyer’s offer being accepted by the seller, however it does often protect one or both parties from a potentially litigious situation. Talk over your goals with your Realtor to decide which, if any, contingencies are right for you.
What are Multiple Offers & “Highest and Best”?
When a home is listed for sale, anyone can make an offer to buy it. These offers are typically made in written form using specific, legal documentation and submitted via a Realtor. Because anyone can make an offer, many homes on the market get more than one offer. This is called a multiple offer situation.
The homeowner can choose one of the offers or, with the help of a Realtor, can choose to request “highest and best.” The homeowner and Realtor will choose a deadline and ask for each potential buyer to submit their highest and best offer before the deadline. Then the homeowner and Realtor will determine which offer best matches their needs. This usually only happens in multiple offer situations.
What is an Escalation Clause?
In the event of multiple offers and a call for highest and best from the homeowners, buyers might decide to include an escalation clause in their purchase offer. This clause states how much more a buyer is willing to pay than the highest offer the homeowner receives. A buyer might state they will pay $10,000 more than the highest offer the seller receives, up to $465,000. If the seller receives another offer for $470,000, the first buyer with a $10,000 escalation clause would not win the contract because their limit is $465,000.
This clause in a contract is meant to demonstrate how serious a buyer is about winning the property and oftentimes sways a seller to choose them.
When you’re buying or selling a home, these portions of the contract can be tricky. That’s why it’s so important to have a licensed Realtor working with and for you. He or she should ensure that you are educated and understand the very best way to present an offer or read an offer.