'Fraught with challenge': Toronto realtors raise concerns over bidding war tactics

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Real estate agents in the Toronto region are raising concerns about an emerging practice designed to help buyers win bidding wars by promising to automatically top any better offer for a home.

Known as escalation or elevator clauses, they allow a would-be buyer to submit an offer for a house and include a provision promising to automatically top the best price from any other bidder by a preset amount.

The clauses have been commonly used in some U.S. markets, and are being adopted by some brokers in Canada, although the extent of their use is not known. Realtors say they have the potential to juice heated bidding wars by pushing prices steadily higher, and can lead to complications and ethical challenges.

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The Real Estate Council of Ontario, which regulates realtors in the province, said it can be "particularly cumbersome" if selling agents have to manoeuvre among several bidders who are all promising up front to top the next highest bid, sight unseen.

"Escalation clauses are certainly on RECO's radar, and we've been receiving a number of questions from registrants about how to deal with them," the council said in an advisory released Thursday.

There are no regulations in Ontario about the use of the clauses, but RECO said realtors are still governed by general rules, which include standards about acting in a clients' best interests. The council said it will "review and investigate complaints related to escalation clauses and, if warranted, will take appropriate action."

Under an escalation clause, a bidder could pledge to beat the highest submitted price by a fixed amount – such as $2,000 – so could automatically win a bidding war if the selling agent adds their additional $2,000 to the best bid. However, if the bidder includes a maximum cap in the escalation clause and bids go above that level, the clause would not apply.

The situation has the potential to be far more complicated if two or more bidders use the clauses. If one person has the highest maximum cap, that could determine who wins. But if two people have the same maximum price, or if neither includes a cap, RECO said the selling agent should ask both parties to submit a final, best offer.

In advice included in Thursday's advisory, RECO also said buyers' agents are required to include a cap in an escalation clause to protect buyers from paying more than they can afford.

John Pasalis, president of Realosophy Realty Inc. in Toronto, said he has never done a deal with an escalation clause, but said they have the potential to make bidding wars even more frenzied while shutting out bidders who don't use them.

He said RECO should do more to discourage their use because of the potential for abuse. Among the problems, Mr. Pasalis said unscrupulous realtors could take advantage of buyers who are required to reveal a maximum cap price in their escalation clause, telling them the bidding went to their cap level without having to provide proof.

"My first instinct was that this is terrible for the buyers who are losing – who are making good-faith offers and losing because of these clauses," he said. "But this could actually be terrible for people who win because there's no proof [of the highest offer price] – they don't have to prove it."

Dianne Usher, division manager of realty firm Johnston & Daniel, said she saw escalation clauses about 10 years ago for a short period of time but not recently, and believes they are "fraught with challenge."

Ms. Usher said she is concerned about privacy, because realtors are prohibited from disclosing any terms of a purchase offer to anyone, including a competing bidder. An escalation clause essentially requires the selling agent to reveal another bidder's offer in order to trigger the extra escalation amount.

"The only way a buyer with an escalation clause in their offer would know whether or not they needed to activate it would necessitate him being privy to the terms and conditions of a competing offer," Ms. Usher said.

Shawn Zigelstein, a Royal LePage realtor in Richmond Hill, north of Toronto, said he is concerned about the clauses but does not believe they will become common because the Greater Toronto Area market has cooled and there are fewer multiple-bid situations.

"I think a month and a half ago this would have been a massive topic, but today with the change in the market that has happened so quickly, I don't think we'll see these in play much at all," he said.