If you're currently in the process of home buying -- at least here in the greater Bellingham real estate market -- you've either used or at you've at least heard of the "escalation addendum." What is it? When is it used? Is it a risky document, or a safe one? When *don't* you use an escalation addendum?

All great questions! All worthy of answering here.

First, what is it?

An escalation addendum is a specific form added to an offer, that speaks for you, the Buyer, and it says to the Seller, "We're offering X price on your house. We'd like to buy it for that initial offer price of X... BUT... if another buyer should happen to also offer X, or more, we'll BEAT THAT OFFER! Not only will we beat it... but we'll tell you right now HOW MUCH we'll beat it by, and we'll also tell you our absolute top dollar!

"More succinctly, "We're offering X, but we'll pay up to Y, and we'll beat any other offer by an increment of Z."

When is it used?

It is a 100% optional addendum. It is frequently used in "multiple offers situations" when a listing has more than one buyer making offers, and a buyer wants to bid against the others auction-style.

For the past few years now, in this super hot market, many homes listed for sale have ended up with multiple offers. Some are easy to predict that that will be the case, such as with lower priced homes and/or homes in the Core Neighborhoods. Sometimes the list price is so obviously below market value that we tell our clients, "This price isn't meant to reflect market value. It's meant to be an invitation to an auction."And when there's an "auction" playing out on a hot listing, the escalation addendum is a very common way for buyers to do their bidding.

Say the house you want to make an offer on is listed at $399,000. We've called the listing agent and learn that they have 2 other offers, and they'll be reviewing them all the next morning.

You've been looking at homes and watching prices, and you decide the home is worth up to $430,000 for you. So in the offer we write $399,000 on the front page of the offer, but we also indicate the presence of a "Form 35E" -- the escalation addendum.On that document we write that you'll beat any other legitimate offer by an increment of, say, $2500, up to a price not to exceed $430,000.So if the next best offer comes in at $420,000 your offer would automatically escalate to $422,500.

Note that the price is the ONLY term in the offer that is modified by this addendum, and that price is not ALWAYS the most important thing to a seller. Maybe your offer has financing and a home inspection, but the lesser offer is all cash, no inspection. Your $2500 increment may not be enough to "win." There are a lot of ways to strengthen an offer other than just price, though the escalation addendum does focus strictly on price.

If the seller chooses your offer, they would fill out a "worksheet" section at the bottom of the escalation addendum that shows how all the math plays out between the other offer and yours, and how your price of $422,500 was arrived at. They would then send it back to your agent WITH the other, competing offer attached. It's not a counter offer at that point... it is a fully executed offer. You got the house, for $422,500!

Is it a risky document, or a safe one?

The escalation addendum seems very straightforward, but it is not. It can be a risky document and must be used with care. Here are some of the reasons it's considered risky:Auctions often beget a "frenzy" where rational, objective thought and action go out the window, and the primal desire to "WIN!" takes over. This can result in simple over-paying for a property.

The inclusion of an escalation addendum "shows the buyer's hand" to the seller, revealing the buyer's top dollar. The listing agent and seller are free to show this to competing buyers, or make a counter-offer at the full, top dollar shown in the addendum.It is often debatable whether the competing offer is a fully legitimate, arm's length, bona fide offer that can indeed be used to escalate your offer. Often times, buyers in multiple offer situations get cold feet mid-auction and verbally withdraw their offer -- which should NEGATE any uses of their offer to escalate others... though that's not always revealed.

Escalation addenda should never be included in a back-up offer, though they often are. The trouble arises when the first position buyer backs out, and you're given notice that you -- the back-up buyer -- are now in first position at that escalated price. But wait... is it truly escalated if there's no other offer anymore?See how subjective it can get? There are work-arounds to these questions and issues, though many of the newer agents in the market haven't been trained in them yet. So the landscape is still murky in many cases.

When *don't* you use an escalation addendum?

Even in super-heated, multiple offer situations, the escalation addendum is not always appropriate or even desired. Some sellers (and/or listing agents) don't want the vagueness or potential pitfalls that come with escalations, so they simply say, "Write your highest and best offer." In those cases you're forced to guess at the price that intersects what you'll pay with what will get you the house.

You wouldn't use an escalation addendum if you're writing a contingent offer, an offer with a closing date more than 60 days out, or an offer with any level of seller financing. Those aren't allowed, as stated in the document itself.

In summary

As with MOST of real estate, the "What? When? Where? How much?" and other questions surrounding this topic are all best answered with the universal, "It depends." But in this market, you must at least be familiar with the escalation addendum, and I hope this article has started you down that path.