To the Editor:
Escalation clauses in real estate contracts are, according to several realtors, a rare phenomenon in South Jersey and a more accepted practice in PA. They should be outlawed in NJ. Escalation clauses prejudice the bidding process against both the seller and other offerors.
Scenario 1: Three parties, A, B, and C, made offers on a house in Cape May Beaches listed at $400,000. Other architecturally identical houses in the same block two months earlier sold for less but this house was in better condition. A offered $440,000, B offered $455,000, C offered $445,000 with an escalation clause. C’s escalation clause stated that it would match the competing best offer plus $1,000 up to $501,000. (Sellers do not inform offerors of the content of competing offers.) The seller accepted C’s offer, which automatically blocked further bidding. Consequently, C preempted B’s offer of $455,000 by adding one thousand dollars and obtained the house for $456,000. The seller, for a $1,000 fee, gave up the opportunity to continue the bidding competition and possibly gain another $10,000 to $20,000.
Scenario 2: Two parties, D and E bid on a different house in Cape May Beaches listed at a high price because of location. Both parties were aware that the house needed hundreds of thousands of dollars of restoration work. Both parties made initial offers adjusted for restoration costs. D offered $475,000. E offered $450,000. The seller countered with a reduced asking price of $575,000. D increased its offer to meet the seller halfway ($525,000). E, not knowing D’s position, increased its offer to $490,000 and included an escalation clause that would match D’s highest offer up to $550,000 plus an increment of five thousand dollars to insure E’s win. By chance D discovered E’s strategy and withdrew its offer. E thereby obtained the house for $495,000. The seller lost $30,000.
Offerors have a reasonable expectation of fairness in the bidding process. An escalation clause is a legal scheme to practically guarantee a win while shortchanging the seller and checkmating unsuspecting competing offerors for a small incremental fee beyond the best competing offer. By accepting an escalation clause, the seller blocks further negotiations with offerors willing to pay a higher price.
Offerors may be able to guard against being caught in this trap by including a clause that invalidates their offer unless the seller assures them that it will not accept offers containing escalation clauses.
– John Gohagan, West Deptford
