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Purchase provision allows automatic increase in offer to beat another buyer’s top bid.
Home buyers are advised by the Real Estate Council of Ontario to consult their lawyer when considering making an offer with an escalation clause
The Ontario Real Estate Association (OREA), which represents 70,000 real estate agents and brokers, has become involved in a public spat over the use of the controversial “escalation clause” in purchase agreements.
The dispute began after the real estate regulator — the Real Estate Council of Ontario (RECO) — sent a province-wide newsletter to agents to provide “clarity” about the use of escalation clauses.
An escalation clause is designed to defeat competing offers by automatically increasing a buyer’s price by a pre-set amount over the highest offer.
Here’s how it works: Two buyers are bidding on a house. One buyer offers $600,000 and a second one offers $550,000 with a $2,000 escalation clause. The second buyer is then told she won the bidding at $602,000. She is not specifically told the other bid was $600,000 but the escalation clause makes this evident, enabling a violation of the privacy rule.
The RECO newsletter notes that the use of an escalation clause could violate the industry Code of Ethics prohibiting agents from disclosing details of competing offers. Yet, in the newsletter, RECO gives detailed advice on how to handle offers with escalation clauses without specifically revealing the top offer.
In an open letter to RECO last month, Ettore Cardarelli, president of OREA, urged the regulator to immediately set the record straight that escalation clauses are not allowed in Ontario because they violate the industry code of ethics.
Blogs, LinkedIn and Facebook discussions lit up with similar criticisms.
In his torontorealtyblog.com, Toronto realtor David Fleming wrote: “This may be the dumbest bulletin ever released by RECO.”
Realtor Katie Steinfeld on her LinkedIn page, wrote: “This clause is dangerous for many reasons . . . Let’s ban escalation clauses altogether.”
In his real estate blog movesmartly.com, well-known Toronto real estate broker John Pasalis wrote that RECO’s position “has just made the bidding process even less transparent and worse.”
In a worst case scenario, Pasalis says, when the seller’s agent is less than honest, “escalation clauses act like a blank cheque,” and that this can be “at the expense of all home buyers.”
RECO’s mission is to protect the public interest through a fair, safe and informed marketplace, but eight out of 10 RECO board members are real estate agents or brokers.
Pasalis calls on the Ontario government to end the real estate industry’s right to regulate itself because it comes at the expense of the rights of consumers.
When asked about this issue, RECO registrar Joe Richer responded: “RECO does not endorse escalation clauses, because they can create complex situations for buyers, sellers and their representatives. In fact, we recommend that consumers consult with a lawyer if they are a buyer thinking about submitting an offer with an escalation clause, or a seller who is entertaining an offer with an escalation clause.
“The bottom line is, escalation clauses are not prohibited under the law, we know that they are occasionally used, and we do receive regular enquiries from registrants seeking information about them. For these reasons, as the Registrar, I believed it was important that we issue a communication to registrants about how they work, and the challenges that come with them.
“Our article contains a clear example on how to handle an escalation clause while remaining in compliance with the Code of Ethics.”
Unfortunately, unless RECO acts to prohibit the use of escalation clauses, no one submitting a purchase offer can be confident that their price in the offer will remain confidential and not be used against them.
Bob Aaron is a Toronto real estate lawyer. He can be reached at firstname.lastname@example.org , on his website aaron.ca, and Twitter @bobaaron2.