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Escalation Clauses What Real Estate Agents Need to Know - YouTube
Channel: The Real Estate Classroom
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every one of you using escalation
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clauses in your purchase contracts we're
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going to describe in this video what
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they are how they work and some pitfalls
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that real estate professionals need to
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be aware of
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everyone if we're meeting for the first
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time my name is Paul Pacheco and welcome
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to real estate classroom YouTube channel
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just a place real estate professionals
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can get tools and tips to stay out of
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real estate jail and hey by the way if
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you would click that little red
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subscribe button that little
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notification bell right next to it and
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give this video a thumbs up or a thumbs
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down either way I don't carry it is all
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traffic for the channel escalation
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clauses is the topic of this video and I
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will tell you I'm pretty apprehensive
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about putting this out on the air ways
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and here's why everybody has their own
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opinion of what they are and how they
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work and what they mean and I'm gonna
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probably disrupt disrupt some of that
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thinking the whole point of this video
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is just to make you think about it and
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for you brokers maybe to dive a little
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bit deeper into these escalation clauses
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that your agents are using and maybe
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come up with a good escalation addendum
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that they can use because right now it's
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like the Wild West I have seen so many
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different escalation clauses and
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addendums out there and they're all
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different everybody's using stuff that
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they've pirated off the internet and and
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they don't make sense it is really a
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mess out there
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so I'm just trying to bring some
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awareness to this and so in this video
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what I'm going to do is I want to
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hopefully answer three questions number
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one is what an escalation provision is
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or an escalation Clause how they work in
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some pitfalls that agents really need to
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to think about and try to avoid here so
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there are really two types of escalation
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addendums now I understand we say
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escalation clauses but most of the time
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the escalation Clause is not put in the
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actual contract it's an addendum it's an
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escalation addendum and there are two
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major types there is a gross sales price
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escalation addendum and a net to seller
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escalation addendum I'm going to
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describe both the first one we're going
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to talk about is the gross price and
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that's really simple I mean look at the
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board behind me here here's a typical
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scenario we have four competing offers
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on on this property
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Tom sell Sarah and Don and then Sarah
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has the only offer with with a
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escalation clause so in this case we
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have Tom who has the highest offer at a
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hundred and eighty five thousand dollars
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however
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Sara's contract has the escalation
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provision that allows and requires an
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escalated price or an interval price of
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a thousand dollars above the highest
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competing offer pretty standard and then
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that she has a cap built in of a hundred
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ninety two thousand dollars
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alright so in this case here Sara's one
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hundred and seventy nine thousand dollar
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offer is going to jump over Tom's one
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hundred and eighty five thousand dollar
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offer and ultimately we're going to end
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up with an escalated sale price of a
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hundred and eighty six thousand dollars
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I think most people understand that
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concept and how it works
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but let's use the same scenario with a
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net to seller alright so we have two
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columns now we have the same four offers
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with the same for real estate agents now
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we have the net to the seller on each
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one and we still have the thousand
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dollar escalated interval and the cap at
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one hundred ninety two thousand but look
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what happened here alright so let's take
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a look at we have Tom's one hundred and
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eighty five thousand dollar offer that
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Nets the seller a hundred thousand
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dollars but let's look at Sarah's
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Sarah's hundred and seventy nine
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thousand dollar offer actually Nets the
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seller a hundred and one thousand
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dollars well how did that happen well
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each contract is different each contract
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because of financing closing dates
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because of repairs may be requested
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because of home warranties ask for
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seller concessions there's a whole
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litany of reasons why but in this case
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Sarah is the listing agent and you know
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what Sarah has a provision in the
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listing contract that says if it's a
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double bubble then the seller pays less
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commission and so that hundred and
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seventy nine thousand dollar offer which
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is six grand less than Tom's actually
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Nets the seller more but tom was smart
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Tom put on behalf of his client an
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escalation clause in the contract that
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said that they would beat the net the
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seller net by a thousand dollars so the
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the next highest competing by a thousand
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bucks so in this case here Sarah
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$179,000 offer Nets 101 to the seller
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well tom has to beat that hundred and
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one thousand dollar net and how do
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Tom do that well he's got to add
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obviously $2,000 to overcome that so
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he's going to add $2,000 on to his one
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hundred and eighty-five thousand dollar
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offer which makes the new escalated sale
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price a hundred and eighty-seven
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thousand dollars I hope you understand
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how we got to that we're not talking
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about a gross sales price we're talking
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about the net here and Tom's offer with
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the escalation Clause had to better that
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net that Sarah's net of a hundred and
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one by two grand and that's how he came
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up with the one hundred and eighty-seven
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thousand dollar offer all right so
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that's how the two different escalation
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provisions work so here are a couple
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other problems that we have to really
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think about when we're talking about the
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net to seller
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escalation and that is timing so is the
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net based on the contract date or is the
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Nate the net based on the closing date
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and why does this matter well because
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some of these escalation clauses are so
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poorly written there's an actual example
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that I have for you and that is the the
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contract date netted as of the contract
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date this seller netted a certain amount
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of money but after the the title insurer
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or the title search was done they found
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a $5,000 mechanic's lien well that
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changes the seller net at closing and
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this escalation Clause was so poorly
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written the seller was saying hey you
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guaranteed that you would beat the
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highest net to the to me the seller and
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you know what I thought it was as of the
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day of closing so guess what I want that
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five thousand dollars and they have a
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legitimate argument the seller probably
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or the buyer probably has a legitimate
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argument too but the whole point of a
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real estate agent is not to get our
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clients in legal jeopardy in the first
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place unfortunately a lot of these
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escalation addendums are poorly written
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and they don't address or put
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protections in there to deal with these
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type of scenarios all right so we have
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to think about that and what is a valid
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cost that's another issue that comes up
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as well another thing we need to think
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about is if if it's a net to seller
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addendum in our escalation clause and
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the listing agent says hey mr. buyer's
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agent I did the calculations and here is
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the escalated purchase price are we
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going to take their word for it I would
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say no I mean in fact the Washington
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Association of Realtors some of their
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members they have the addendums their
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standardized addendums now have the
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calculations built right into the
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addendum so the listing agent has to do
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the calculations right on the addendum
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and send it over the buyer's agent so
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the buyer's agent can actually verify
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that the calculations were done because
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remember there's four offers here on our
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scenario that we've been discussing in
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this video that's a lot of moving parts
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a lot of different cost a lot of there's
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just a lot of a lot of math and you're
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trusting that the listing agent
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calculated the numbers correctly so at a
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minimum I do think it's legitimate for
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the buyer's agent to say listen not only
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do we want the a copy of the the
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contract that invoked the escalation
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clause the highest competing contract
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that invoked that escalation clause
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which is almost in every escalation
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addendum and it's very legitimate but we
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also need the seller cost sheet and I
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think that is a very valid request so
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the buyer's agent can verify that the
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listing agent calculated the numbers
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correctly all right one of the what
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other issue that I think we really need
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to address here so remember in most as I
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said in most of the escalation clauses
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there's a provision that says that the
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listing agent shell provided the buyer's
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agent a copy of the highest competing
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offer so the buyer's agent can verify
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that the offer was bona fide and real
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and legit I think we all understand that
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but my question to you is what if that
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offer that they gave you that invoked
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that escalation clause had expired is it
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really
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bona fide and enforceable at that point
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is a legitimate contract and that's the
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point here so let's look at the board
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here so we have Tim I'm sorry Tom who
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had the highest competing offer sell was
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the second highest at 183 all right so
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the escalation Sarah had the escalation
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clause with that thousand-dollar
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interval so based on Tom's heart
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$85,000 offer Sara's offer actually
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became the escalated price of 186 right
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we discussed that earlier but what if
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Tom's offer had expired already well in
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my opinion the legitimate bona fide
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enforceable contract is not Tom's it
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sells because an expired contract is
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expired right so that means sell is that
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was though had the highest competing
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offer at 183 so actually the new
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escalated sale price should be 184 and
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not 186 I will tell you that I do see a
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lot of offers where the highest
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competing offer had expired
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before the contract was agreed to so
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therefore it was an expired contract
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that they were using desk you'll
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escalate the price it's something that
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you need to discuss with your broker
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because I think it does create some
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liability on the buyer side at least
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it's something that the buyer's agents
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need to address all right one other
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thing and I'm almost really apprehensive
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to bring this up but I have been getting
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a lot of communication from you folks
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out there saying here's what's happening
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with these escalated prices the
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underwriters and the lenders and the
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appraisers really aren't getting it they
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don't understand listen the purchase
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contract has $185,000 offer we end up
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with an escalated price of 190 because
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of the escalation clause a lot of the
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underwriters who are having a hard time
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grappling with this and it's
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jeopardizing the loan so here's what I'm
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telling you to do if you arrive at an
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escalated price through that escalation
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process that's awesome let's say it's
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190 your original offer was 185 through
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the escalation process you end at 190
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what I would tell you at that point is
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actually counter the escalation Clause
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completely out of the contract and then
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counter the new price at a hundred and
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ninety so that way we kind of make it
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lender proof and appraiser proof and I
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don't mean that disrespectfully I just
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mean that those are the two groups that
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we seem to be having issues with with
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the escalated price and you know as well
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as I do we want everything to go as
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smoothly as possible because they're so
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many things can go wrong so just my
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recommendation
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for that that's all I got in this video
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I hope you got something out of it I
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know this probably probably forgot
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something and I know it probably also
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sparked a little bit of consternation
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maybe so I would love to hear your
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comments if I missed anything if you
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don't agree if you agree put them down
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in the comments below but please be
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civil and be respectful if you would
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please don't forget to like this video
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thumbs up or thumbs down subscribe to
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the channel share this with others until
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next time please get out there and sell
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