The Multiple Offer Trap

When offering real estate for sale, some brokers will suggest to clients that they set a low selling price, open the property for showings for a short time, then set one day for offers. The brokers are attempting to create multiple offers which they think will result in a price higher than market. The broker is trying to simulate a silent auction where bid prices are not known. Staging a property for multiple offers is very risky to everyone except the real estate agents involved. We advise against ever being involved in a potential multiple offer situation, either as a buyer or a seller, especially for a principal residence.

As a seller, one risk is that all the offers you receive will be above your list price, but below the price you expected to sell your property. You do have the choice to decline all offers (provided they all had conditions), but then are faced with having to re-launch the sale of your property. This can be a big issue if you have committed to purchasing a new property, but not included the sale of the existing property as a condition. There is also the risk that you get only one offer, but that one is at, or only slightly above, your list price. If that offer comes with no conditions, Canadian contract law technically requires that you accept the offer. I have never known a real estate agent to explain this risk to sellers. An additional risk is that regularly buying and then selling property using a multiple offer process could be deemed by the Canadian Revenue Agency (CRA) as a business and result in taxes being paid on the difference between the list price and the selling price.

As a buyer, there are many risks associated with multiple offer situations. In one situation, buyers, desperate for a specific property, bid 15% higher than the list price. They won the bid, but their bank, after getting an appraisal well below the bid price, declined the pre-approved financing. The buyer was placed in a situation where they had to forfeit a $10,000 deposit in order to get out of the sales contract. In another situation, the bid was successful, and the financing squeaked through, but a number of other costs such as land transfer tax, which is based on a % of selling price, proved too burdensome and the deal fell through. Most concerning was a client of ours that became involved in a multiple offer situation where the other prospective buyers turned out to be shadow numbered corporations of the seller! The broker who represented the seller advised that if we had concerns to complain to the real estate association. We knew that was a waste of time. Instead we swore out a criminal complaint against the seller and their agent. There are also insurance coverage issues that come into play. We are not insurance experts so we advise anyone who goes into a multiple auction sale to discuss insurance issues with their insurance advisor.

There is one situation where we advise that it might be ok to be involved with multiple offers. That situation is where there is a legitimate open auction, and all bids are known by all bidders. And only where conditions with respect to pre and post auction inspection and disclosure are accepted. Even then, there are still risks especially if a property is not fully completed or there are disputes about the actual definition of the property.

If a client insists that they want to offer in a multiple offer situation then we recommend this approach:

Put the offer in a sealed envelope and deliver the envelope with a contractual letter attached that reads - "opening the offer envelop will cost the seller $20,000, an amount to be waived in the event that the offer is accepted. " This approach is standard in other businesses where multiple offers are used.

Where Did the Market Go?

The Pacific Coast of British Columbia, in particular the lower mainland, is the riskiest market in Canada to invest in housing.

Price risk is systemic in the market, with unpredictable short term, real price increases always followed by long term (more than 8 years), real price declines, or, at best, nominal increases. For example, after more than a 100% increase in prices from 1979-1981, real prices dropped so much and for so long that they needed until 2002 - 2004 to surpass the 1981 high. A 1995 buyer did not see a real price increase until 2005. Price disclosure is clouded by the fact the local real estate board regularly issues inconsistent reports. For instance, in July this year, the Vancouver board reported locally that prices in Vancouver were up about 5% year-after-year but reported a different set of numbers to national real estate association which showed a 1% year-after-year decline.

Construction risk in this market is the highest in Canada. The leaky condo crisis of the late 1990s resulted in the collapse of the BC New Home Warranty Program, something unparalleled in Canada. While the crisis may seem to be over, many condos/strata still do not comply with rainscreen standards. The costs to buyers of resale condos/strata can range from $30M to $200M in repairs. We consider legislative requirements for reserve funds to be inadequate given the risk. Building code and municipal by-laws/standards are weak compared to Ontario and Quebec standards. For instance, owners of wood framed condos/strata are not prohibited from having propane equipment on their exterior decks, with the result that wood frame buildings suffer extreme damage from source-localized fires. Sprinkler systems are required, but we are well aware that sprinkler systems reduce insurance claims for infrastructure rebuilding but have no virtually impact on individual owner, non-structural property replacement such as furniture.

This risky market is now in decline. A plummet would be best how to describe it. Sales are off almost 50% year-over-year in Vancouver. Prices are down, drastically in some cases, but price declines are difficult to track because of the way prices are reported.

In many local areas, prices have no-where to go but down, and far down. There are some condos in signature buildings, such as the Shangri-La and Ritz Carlton, listing from $12-29 million. We have seen such condos, in other markets, marked down by 60-70% in order to sell them. And we have watched near identical projects, such as the proposed Toronto Ritz Carlton, fail. In addition, the business model of mixed use condo/hotel/commercial buildings is fraught with problems (Tower 3 of the Peninsula development in Puerto Vallarta, and 1 King West in Toronto are examples) and seldom meet cash flow projections. The Coal Harbour area of Vancouver boasts an average price of over $800M for condos. These condos rent for $2,000 to $4,000 per month, which means that on a cash flow basis, they are worth between $240M to $480M depending on assumed interest rates.

How bad will it get here. We projected a 25% decline in price in this market. We now consider that number to be very conservative. We are now projecting a 25-30% decline in prices depending on neighborhood and property type. Single family homes in good locations such as West Vancouver and North Vancouver are best protected from price declines. Expensive, large-square-foot, cookie-cutter, high rise condos in such areas as Yaletown and Coal Harbour, or in suburban locations, are at the greatest risk of 30%+ price declines.

In case these projections seem pessimistic we can provide the following proven historical price declines from other markets:

Hong Kong real estate 1997-2001 - down 60% in price

Toronto real estate April, 1989 - October, 1996 - down 35%

Panama City, Florida Condo prices April 2006 - April, 2008 - down 33%

Mt. Tremblant real estate April 2003 - August 2008 - down 25%

Any recommendations we make depend on a buyer/investor's individual circumstances. However, we do recommend that anyone considering selling in this market in the next 4 years, do so now. We would be hesitant to issue any buy recommendations, again dependent on specific circumstances and objectives.