Making an offer
Right now we’re obviously in a seller’s market but the market is (possibly rapidly) changing. Successfully getting an offer accepted takes patiences and strategy. Just six months ago we were seeing most houses sell for 10%-20% over asking price with multiple offers on every house. That amount is quickly going down and some houses are being sold for asking price or even slightly lower. Each house is different, and you’ll need to determine your strategy depending on the individual situation.
Please take some time to familiarize yourself with the options below as it’s important to make decisions quickly when you find a house you’d like to pursue in what is still a fast-moving market. Your Broker is here to help you think about what to put in your offer and answer any questions you may have. Feel free to ask for more information or explanations on the below ideas, or even to suggest new ideas. We often learn from, and with, our clients and all ideas are welcome. Afterall, it’s your process, your offer, and we’re here to help you be successful. Below are some considerations and ideas to make your offers competitive:
- Market Conditions:
Buyers often wonder if properties will “hold their value” or “if it’s a safe investment.” If you are in fact an investor, we have some matrices we use to judge if a property is a worthwhile investment depending on your goals (is it a rental, are you “flipping it”…). If you are buying a house as a residence, it’s important to remember that even though the market is slowing, you are still buying in an “up market” and values are likely to go down in the coming months and years. If you’re planning to hold on to the property long term, possibly turning it into a rental if you ever move, then the value now will make less of a difference as the market will go up and down over the coming decades. If you’re planning to sell in the short term (3-10 years) then it’s important to know you are likely going to sell for less than you paid or even less than you owe on a mortgage (a short sale situation). The only things that might influence this would be if you increase the value of the property in other ways such as remodeling, or if the neighborhood changes in value regardless of the market.
That doesn’t mean buying a house now is a bad idea. Rents are also up and you might end up paying as much in rent as you would for your mortgage. Of course, you’d have a down payment but that might be worth it to you if you’re more comfortable owning your own home rather than renting. Then you have a chance of building some equity or will be able to make the space more your own if you own it. You can always pivot and decide to rent for a while if you don’t find a house you really want or are unable to get an offer accepted in the timeframe needed. We’ll be here for you whenever you are ready to buy so please know, there is never any pressure from us to buy.
- Highest and best offer:
You’ll often hear us talk about making your “highest and best offer.” But making your “best” offer is not just about the highest purchase price. It’s also about figuring out what’s going to be of interest to the seller. Your Broker will call the listing broker on any house you’re seriously considering buying to see if there’s anything important to the seller that might help you succeed. They’ll also try to find out if there are other offers, and if possible, what the terms are of those offers. Ultimately, you have to decide what works for you, but our job is to give you some “Pre-education” so you can make the decisions that are best for you.
- Purchase price:
Price is one of the main factors to consider when making an offer. Some people take the approach of offering as much as they can within their approval or budgetary limits. Your Broker will also do a Market Analysis of the house to discern if you’re likely to have issues with the appraisal and what might be considered “fair market value.” That said, it’s important to remember a Market Analysis is looking back at the market to see recent sales. But markets are always changing. Right now, we’re in a market where some areas are stable, some are still rising (though this is becoming less true), and some are starting to decline with some sellers having to lower their prices to get a home sold. All of this, along with the amount of competition on the specific house should be taken into consideration.
- Escalation Clause:
And “Escalation Clause” is when you start out with one offer price, but you tell the seller (in an addendum) you’re willing to “beat any offer” up to a maximum purchase price that you set. You also tell them by how much you will beat other offers. This is called the “Escalation Factor.”
An offer with an escalation clause might (spread out over a number of forms) look like this:
I will pay you $________________ (price) for the house, but will beat any other offer you receive by $_________ (factor) to a max purchase price of $______________(cap).
The purchase price is often close to the list price but with the market shifting it may be lower if you decide to use this strategy.
The escalation factor can be anything you want but my feeling is a minimum of $1000 is what it takes to make someone pick one offer over another and many people go with $1000, so going a bit higher (between $1500-2500) seems to be most effective.
The max purchase price or “the cap” is relatively self explanatory. It’s the maximum amount you feel comfortable paying for the house. Just in case we get it, we always get the approval letter written for the cap listed in the Escalation Clause Addendum to prove to the seller you’re capable of buying the house at that amount.
To answer your most likely question you have, Yes. The seller needs to prove to us they have an offer better than our initial purchase price. To do this, they send us a copy of their next best offer so we can see that we’re not overpaying.
And to answer another common question, yes, this is “tipping your hand” and letting the seller know how much you’d be willing to pay for the house. If you were the only person making an offer on a house you would not employ this strategy unless you were positive other offers were going to come in. Some people wonder “What’s to stop a seller from just countering at my max price?” The answer is “Nothing.” They can absolutely do that but unless they have another offer naturally escalating the price it would be unlikely for a buyer to go up that high for no reason.
Some sellers/listing brokers state they do NOT want to see escalation clauses employed in offers and just want buyers to send they’re “highest and best offer”. That said, you can write any offer you want, so even if they say “no escalation clauses” that does not stop you from writing one. Just know they might be frustrated by it.
- Time off Market Fee and Earnest Money:
One of the first decisions you’ll have to make after purchase price are the amounts for the Time Off Market Fee and Earnest Money. Historically, Earnest Money was delivered as soon as we had an agreement. It’s held by the title company and then credited to your side at closing. It’s also supposed to get refunded to you if you walk away based on inspections or other contingencies within the deadlines set out in the agreement. But sellers can refuse to release earnest money and it can stay tied up at the title company (and then county if it takes long enough) for years. So to combat that issue, we started using a Time Off Market Fee (or TOM fee).
The TOM fee is a gift you give to the seller once we have a signed agreement and the house has been taken off the market. The seller keeps this money regardless of what happens in the transaction and it is never credited to your side of the equation. The benefit of using the TOM fee is it allows us to postpone delivering earnest money until AFTER inspections are done and we have “resolution” of any repair or credit negotiations. After that point you deposit earnest money as described above. And you never even deliver the earnest money if you terminate the contract after inspections.
Usually the only remaining contingencies are the appraisal and financing, and if we’re lucky the appraisal might already be done (but it is not usually done as quickly as inspections). If you lose your financing or have a huge life event (force majeure)that forces you to terminate the contract, then you should still be able to get your earnest money back as sellers tend to be more understanding about those kinds of things. But it’s still not guaranteed. If you walk away for any other reason, then you’ll have to assume you’ve lost your earned money.
You can offer any amount for the TOM fee and EM, but some amounts are customary. The TOM fee is usually something in the $100-500 range depending on the price of the house and how much you feel comfortable giving. It’s meant to be a small token of good faith and is usually much smaller than the earnest money. Some people use it as a financial incentive and make it higher, but it’s not the original intent and we’ll likely see less of that as the market shifts.
Earnest money is usually in the $1000 – 10,000 depending on the cost of the house. A general guideline is if the house is under $300k the earnest money might be between $1000 – 3000. If it’s over $300k, then it’s often roughly 1% of the purchase price or at least $2500 or higher. Regardless of the amount you offer, it’s important to remember this is money that could get tied up indefinitely, so you need to be able to live without it if we get an unusually difficult seller or if it does not get released for any other reason.
- Appraisal Gap Waiver:
If you’re getting a mortgage and are worried about appraisal value (or we think the seller is worried), we might look at other ways to offset the concern around value and that’s where the Appraisal Gap Waiver comes in. (You can still get an appraisal if you’re paying cash, but you will have removed one of the most compelling reasons a seller has to pick a cash offer over financing.)
The “gap waiver” basically “pre-negotiates” what you would do if the appraisal comes in low while still retaining the appraisal contingency. If you’re getting a mortgage, we can’t just “waive” the appraisal as your lender will require you to get one. Complete waivers from the lender are very rare and usually only happen when a house is priced below market value.
When we include a gap waiver in an offer, we essentially tell the seller how much “above appraised value” you’ll pay in order to make-up the shortfall between the appraised value and the purchase price. You never pay more than the “agreed upon purchase price” unless you want to use that as a negotiating tool. I’ve only seen it done once.
Not everyone feels comfortable with this and not everyone has “extra” money available to do it. It’s important to think about this ahead of time to see what feels right to you. We have a number of buyers who do not feel comfortable with a gap waiver at all and it’s never a part of their offers. Remember that staying within your comfort zone is important.
The appraisal gap waiver doesn’t give any extra money to the seller (though you can decide to do that in the “Hybrid” option below). It just ensures that the purchase price is more likely to stay intact. That’s where this next idea comes in.
- Closing cost credits:
From the seller to you: While in the previous market over the last couple of years, it was almost exclusively the buyer who offered closing costs to sellers, we’re starting to see the reverse happen again. As the market declines and interest rates increase, sellers are starting to be more willing to pay some of the buyer’s closing costs. If this option helps your situation you might consider increasing the purchase price you might have paid in order to make up for asking for some credit to help you “buy-down” your interest rate or pay for some of your closing costs. But if there’s no competition for the house you might not even need to do that.
Another option (if you have “extra cash”) and are in heavy competition for a house, is for you to pay some of the seller’s closing costs. The big difference between this and the appraisal gap waiver (in terms of its benefit to the seller) is if you end up not having a problem with the appraisal the seller STILL gets to keep the money you’ve offered to pay.
The other added benefit of this strategy is it allows you to put more money in the seller’s pocket while keeping the purchase price a little lower which makes an appraisal issue less likely. Some people do a combination of appraisal gap waiver and seller closing costs, or give the seller the option of where to apply the entire “additional” budget you’re prepared to contribute. In this scenario the seller knows if the appraisal comes in OK they still get the funds.
The downside for YOU in this scenario is you’ve spent those funds one way or another. That’s why some people just stick with Appraisal Gap Waiver, or limit the amount in closing costs they’re willing to provide.
- Hybrid – Appraisal gap and paying for seller closing costs:
One buyer decided they wanted to offer the “extra” funds they had EITHER to an appraisal gap OR to seller closing costs if the appraisal gap was not needed. This is a combination of the two above strategies. The key here, the money is gone no matter what happens with the appraisal.
How much does it cost?
It’s important to know how much you might expect to spend on a house outside of your loan costs and down payment. The main things you’ll pay for are inspections and the appraisal in addition to your loan costs. Inspections often cost about $650 for full home, termite and sewer line inspections. If you add any other inspections, such as radon, ductwork, structural, or mold/air quality, their costs could range from another $200 -$650 each depending on the inspection. Appraisals run between $500-650. So on top of your loan fees (likely between $3500-5000 based on the size of the loan and the lender), you should expect to spend roughly between $1300-2500 depending on the inspections you get. This does not include a Time Off Market fee or Earnest Money as discussed above.
Inspections are an important part of understanding the home you’re buying. We always recommend getting inspections but we also want you to know this is one of the ways people are competing to get their offers accepted. If you want to consider some kind of inspection waiver, there are few ways to approach it from the most extreme to the more subtle. Here are some of those options:
- Total waiver of inspections – you do not conduct any inspections. You take the property AS IS and assume all responsibility for any work that needs to be done. We check the “waives all inspections” box in the offer. Another angle to this could be to get inspections “for buyer information only.” In this case we do not check “waives all inspections” but we DO waive the right to object to them. If you find extremely negative info in the reports and you decide you want to walk away, we would recommend you consult with an attorney to determine the possible ramifications of terminating under these circumstance since you did not reserve the right to do this in the contract.
- Only if required by lender – You do NOT get inspections done unless required by the lender (some programs require a termite inspection). You rely only on the “baseline” requirements inherent in an appraisal (if you’re getting a loan) and the termite inspection if required. If paying cash, this doesn’t apply as the main benefit for sellers to having a cash buyer is the waiver of an appraisal, and if you do get an appraisal, repairs would not be a requirement in it.
- AS IS but getting inspections – you retain the inspection contingency so you can walk away if needed but you agree in advance not to ask for any repairs. This is the option that both protects you and gives the seller some comfort, but it’s also less meaningful to sellers than a total waiver. The language here might be something like “The buyer’s intention is to purchase the house in “AS IS” condition. Buyer does still, however, retain the rights in the Inspections section of the purchase agreement.”
- An “enhancement” to the above option is to give a dollar amount below which you will NOT ask for repairs. This has become more common lately and can be very meaningful for sellers as it demonstrates that you will not ask for small, minor repairs. Some ways of stating this option are “Buyer will not ask for any repairs which total under $_________.” Or a more generous option: “Buyer will not ask for any single repair which costs more than $___________.” This rules out any small repairs altogether and tells the seller you’re only concerned about the “bigger” items such as the roof or furnace.
Summary of decisions to be made:
The market moves quickly so knowing what you want to put in an offer is important. Below are the questions we’ll ask you every time we write an offer:
- Financing details
- Purchase price/Escalation Clause
- Closing date (loan process will often determine this)
- TOM Fee
- Earnest Money
- Appraisal Gap Waiver
- Closing cost credits
- Inspection contingency
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