There are some hot real estate markets in Canada, namely Toronto and Vancouver. One of the results of a hot market is a tendency for sellers to underprice their houses in order to create a bidding war. This benefits the seller because it speeds up the selling process and they might get an above-market sale price if the bidders get carried away.
Some buyers feel that sellers are behaving inappropriately or even unethically by underpricing their house. My opinion is that buyers have to deal with the real estate environment as it is and need to figure out how compete effectively for a house, rather than worry about ethics or the fact that bidding wars are “not the way it’s supposed to be”.
Asking price is meaningless
The first thing to realize is that the asking price for a deliberately underpriced house is meaningless. Just ignore it, except as a very general guide.
You are “negotiating” against the other bidders, not the seller
Traditional house purchasing negotiation is between one buyer and one seller – the asking price sets the intent of the seller and negotiations start from there.
In a bidding war, the seller may control the process, but they take themselves out of the negotiation process. The auction is between the potential buyers, who don’t directly negotiate against each other, but are competing amongst themselves to buy the house.
A bidding war (intentional or not) effectly removes the relevance of the asking price and allows the bidders to determine the selling price of the house. By pricing the house too low, the sellers might as well set an asking price of zero and let the potential buyers figure out what the house is worth.
On a related note, a friend of mine successfully sold his house recently using the 5-day method which requires the seller to set the “asking” price to 50% of the estimated market value and then let the bidders determine the fair market value.
To compete effectly against your competitors in a house bidding war, the best things you can do are:
- Be able to walk away.
- Know your housing market.
- Ignore the other bidders
Related: Real estate appreciation
Be able to walk away from the house
As I mentioned here in Things to think about when buying a house, don’t fall in love with a house before you own it. There are other houses for sale and if the price goes too high – don’t be the idiot who overpays. Walk away if you have to. Your agent won’t be pleased, since as I wrote about in why you can’t trust your real estate agent when buying a house, at the point when you are bidding for a house, your agent is your enemy – not your friend.
Learn how much houses are worth
Knowing the market means looking at enough houses in your target area and their eventual sale prices (ignore the asking prices) to be able to determine how much a house might sell for.
Related: How to value real estate
Consider your appraisal value as the “asking” price for that house and go from there. Ignore the seller’s asking price. Ideally you should determine beforehand what your upper limit is and stick to it. I’m not sure how realistic that is. If you are in a hot bidding war, I would figure out your upper limit and make that your first bid. If necessary, just do small increases after that, but don’t exceed your upper limit by much.
The two biggest mistakes you can make with a bidding war are:
- Paying more than you can afford. Solving this take discipline.
- Winning the auction by a large margin. This means you overpaid.
Ignore the other bidders
It can be intimidating to go up against a lot of bidders for a house, but don’t assume that all of them are rational bidders. There were 14 bidders when I sold my first house and I can tell you out of that group – only three were really in the running. There was another group of about four that had reasonable bids, but not good enough. The remaining seven bidders were all under market. The house was very comparable to a few recent sales and any good agent should have known that those bids were a waste of time. Ironically, one of the lowest bids was from a real estate agent.
Some bidders are irrational on the other extreme – they will pay whatever it takes to get a house. Whatever you do, don’t be this person and don’t compete against them. There aren’t a lot of fools with a lot of money (for obvious reasons), so rest assured that if you are bidding against one of these crazies – just move on to the next house if things go too far past your limit.
I’ve heard friends claim “I’ll never get into a bidding war“. This doesn’t make sense to me. It doesn’t matter if a $500,000 house has an asking price of $450,000 or $550,000 – it’s still a $500,000 house and the asking price is wrong. In either case, just ignore the posted price and proceed with a proper bid.
You can remove the auction element of the buying process by knowing how much the house is worth and just bidding that amount. If the bid isn’t accepted, move on. If you lose out on a lot of houses, clearly your appraisal method needs some revising.
My wife and I were involved in a bidding war when we purchased our current house. Because of the research I had done, it was clear that the market value of the house was about 8% above the asking price. We bid that amount and bought the house. Now, to be clear, we didn’t ‘win’ the auction because of my research, but knowing the true house value allowed us to make a rational offer and not feel like we were overpaying.
Interestingly enough, the seller turned down a higher offer because that bidder wanted to knock down the house. We were planning to fix it up (it was a wreck) and since the seller had grown up in the house, he took our offer instead.
To sum things up…
The winner of a house auction is not necessarily the person who buys the house.
More real estate buying resources
- A Practical Way To Estimate And Budget For Home Maintenance Costs
- How To Determine The Value Of A House Renovation
- Rob Carrick has written a number of good articles recently about expensive real estate and the impact to a person financial sitution
- Oh look – I wrote this same article a few years ago – House bidding wars!