Lions and Tigers and Escalation Clauses. Oh My!! The Wild 2013 Northern VA Market Part 2 – How to Structure the Offer.

lion on park bench dreamstime (3)Rising interest rates have slowed the market just a bit but there is still a shortage of homes for sale (June 2013 inventory in Northern Virginia  was 15% less than a year ago).  With an abundance of buyers still in the market, multiple offers are commonplace.  So how does a buyer compete?   Yes, the buyer needs to know the hot buttons of the seller as discussed in a prior post but  buyers also need to delicately balance making the contract attractive to the seller and minimizing their financial risk.  Let’s discuss the clauses buyers may keep in, those they may want to eliminate and those they may want to add.

SALE OF HOME CONTINGENCY OR SETTLEMENT OF HOME UNDER CONTRACT CONTINGENCY

If a buyer has to sell a home or even if the home is under contract and just needs to settle, in almost all cases, the buyer should pass if there are multiple contracts.  Contingent  contracts are the first to be put aside when  multiples are under consideration.  The seller wants to get to settlement and usually will prioritize contracts that offer the least risk.   The lending market is very quirky right now and no matter how solid a deal looks,  there can easily be a hangnail that prevents or delays settlement.  The seller  doubles that risk when two home settlements are involved.  The seller will likely pass on contingent contracts.  There are many ways to go non-contingent which are too long and detailed for this post. Give me a call if this is an issue for you.

APPRAISAL CONTINGENCY

I often see this waived in multiple offers when a buyer is bidding above asking. To me whether it is wise for a buyer to waive it or not is very situational.  If the buyer has  limited cash and is doing a low down loan, it can not be waived because if the appraisal comes in low and there is no contingency, the buyer needs  to come up with additional cash for the down payment.  If that cash is not there, the buyer could be in default of the contract and that gets rather messy.

However, if the down payment is large and there is cash in reserve, waiving this clause is a possibility.  I know on my listings when I see the appraisal waived,  that contract is under serious consideration even against those offering more.  Many sellers want to reduce all risk and be as certain as possible the home will settle.  They would like to know their price rather than having to wait to see if a low appraisal will result in a lower sales price.

Now many buyers offer crazy above list offers on homes with an appraisal contingency knowing that the appraisal will be lower than the contract price and another negotiation will ensue.  From a seller’s side,  it is often better to just know than get involved in this game.

On the buyer’s side, waiving the appraisal should only be pursued if the buyer’s agent has carefully reviewed and explained the comps .  One must know  that the price is fair.  Or they must know that the price is  slightly above fair market and, given other options, be comfortable proceeding anyway.

Personally, though, I sometimes think the appraisal process is overrated.  I have written on this before but recently another experience reinforced my frustration.   I had a home for sale that for various reasons needed 2 appraisals   One appraiser valued it at $310,000 and another at $275,000.  How can that be?  They used similar comps and on one comp the 1st guy pegged it at $333,000 and the 2nd guy said it was worth $305,000. It is tough for me to see deals blow up over an “expert” opinion when two “experts” often vary by wide margins.

Bottom line, if the agent and buyer have reviewed comps and feel given current market conditions and other options out there,  the price is fair, the appraisal may be something to waive if and only if the buyer has extra cash to put down in the event it comes in low.

HOME INSPECTION CONTINGENCY

Whether to waive or include any contingency is always the buyer’s choice but my strong recommendation is to never waive the home inspection contingency unless the buyer is a skilled contractor capable of making their own assessment of the condition of the property.  No matter how neat and clean a property may appear, there can be issues that cost 10s of thousands of dollars.  To me, there is too much risk in waiving a home inspection.

Now, the typical home inspection language says that a buyer has two options after completing the home inspection.  One, they can ask the seller to execute repairs or two,  they can void the contract.  In a multiple situation, I am all for crossing out the the part that states the buyer can ask for repairs.  In fact, most of the competing contracts will likely have crossed that out so leaving it in can work against the buyer.  However, I recommend leaving in the option to cancel the contract if the home inspection reveals  issues that are unacceptable to the buyer.

RADON CONTINGENCY

In a multiple situation, I often suggest a buyer pass on this inspection.   I believe in the dangers of high radon levels.  I believe every home should be tested for radon.   However, unlike a home inspection the financial risk to the buyer is limited.  A radon test costs between $99 and $150 .  Based on my experience, remediation runs between $800 and $1200.   To date I have not seen a home in this area with high radon levels where remediation did not work.  One needs to check with the experts to get their guarantees but this is a risk a buyer may be willing to take to secure the home.   I suggest buyers test after they buy the home and remedaite at their expense.  Adding in this contingency makes the seller think that they could possibly be on the hook for another $1000 of expense vs another contract that does not have that exposure.

ESCALATION CLAUSES

In general, I find these helpful in a multiple situation.  An escalation clause states that the buyer will beat any other contract price by $x up to a maximum price $y.  Some agents make the increase rather small stating the buyer will beat any other contract by $100.  I find that does not usually get the seller’s juices flowing.   How much of an increase to put in depends on the price of the property but the increase needs to be significant so the seller considers it.

And if an appraisal contingency is in the contract, the cap can not be so outrageous that the seller sees it as a ploy to secure the home and then renegotiate later when the appraisal comes in.

Yes, there are abuses that can occur with escalation clause.  The buyer is exposing their bottom line (or really their upper line).  This is usually not the best way to proceed in a negotiation but I do think an escalation clause is an important tool in the arsenal.

CONCLUSION

The above comments are general suggestions.  There are no absolutes.  The choices, as mentioned, always rest with the buyer.  Personally, I take all the time needed to make sure the buyer knows the pros and cons of each option.  How to best present the contract is very situational.  And I make sure we have a well thought out plan with back up options before we go into any negotiation.  My 20+ years in the business have taught me that there is not one strategy that fits all situations.

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