What Is a Bidding War?
A bidding war refers to a circumstance in which two or more prospective property buyers compete for ownership through incrementally increasing bids. Often a bidding war occurs in real estate when housing stock is low in a popular location.
- A bidding war occurs when two or more entities vie for ownership of a property or business.
- As with an auction, a bidding war often happens at a rapid pace, leaving the participants vulnerable to making ill-advised investment choices.
- Speculators often include an escalation clause in their bids,
- This can automatically up the bid by a set amount when a competing offer is made, up to an agreed-upon maximum limit.
- Bidding wars on homes may happen more often in a tight real estate market.
How a Bidding War Works
A bidding war occurs when potential buyers of a property compete for ownership through a series of increasing price bids, sometimes pushing the final price up past the property's original value. Bidding wars commonly occur when buyers vie for ownership of a house, a building, or a business in a desirable location (especially amid a seller’s market).
Similar to an auction, a bidding war often occurs at a rapid pace, meaning that during a bidding war, potential buyers are vulnerable to making rash or emotional investment decisions.
Example of a Bidding War
Alice and Brynne each desire to buy a house listed at $250,000. Alice offers the list price, and Brynne responds with an offer of $260,000. Determined to buy the house, Alice offers $270,000. Brynne counters with a $280,000 offer. Alice recognizes that she has a bidding cap of $300,000, so her next bid is a $20,000 raise. Brynne concedes, and Alice purchases the home for $50,000 more than the original list price, making the seller quite happy.
Escalation clauses can backfire if a competitor has advance knowledge of the clause’s maximum limit.
When a real estate market becomes highly competitive, some investors and speculators choose to implement escalation clauses into their bidding contract on a property. An escalation clause is a statement indicating a base bid price for the property and an agreement to automatically increase that bid by a certain amount if another buyer submits a verified higher bid. Typically, an escalation clause will also include the maximum price the buyer is willing to pay for that property.
If, for instance, in the above example, Alice and Brynne each had incorporated escalation clauses increasing their bids by $10,000 until meeting a $300,000 cap, the outcome would be different. Alice’s initial offer of $250,000 would be met with Brynne’s offer of $260,000. Alice’s escalation clause would respond with a $270,000 offer, and Brynne would offer $280,000. After Alice’s subsequent offer of $290,000, Brynne would win the bidding war with a $300,000 bid.
This strategy, while convenient, has its drawbacks. Typically, a seller of a property will be aware of the maximum price set in an escalation clause, meaning that the seller can know how much the potential buyer is willing to pay.
How Do Bidding Wars Work?
When there are multiple offers on a property, home, or business, a bidding war can break out. When this occurs, the price continues to rise, as people bid over the price of the last bid in the hope of "winning" the bidding war and buying the property, home, or business.
How Do I Win a Bidding War on a House?
The person who offers the most money usually wins the bidding war. To prepare for a bidding war, you can make sure you are pre-approved for a mortgage, have cash on hand for the downpayment, make a competitive offer, and waive contingencies, like a home inspection. Many sellers prefer buyers who can pay all cash versus using a mortgage, so even if you offer less than the highest bid, you might win the war if you can pay for the home in all cash.
Is a Bidding War Better for the Buyer or the Seller?
A bidding war always almost happens in a seller's market and they always benefit the seller who may find themselves being much more than their original asking price.