Sealed-bid Auctions Explained: 6 Things You Didn´t Know

Buying real estate isn’t always an easy process. Many people understand the basic process of contacting a realtor, securing financing, selecting a property, negotiating a price, and then closing. But while this is the standard process for purchasing property, you may want to consider other kinds of transactions depending on the wider state of the market and your own financial situation. For years, creative real estate types have arranged lease purchases, acquired deeds subject to an existing mortgage, and turned to so-called hard money financing. Unfortunately, these unorthodox arrangements carry significant downsides, but there’s another lesser-known arrangement that’s much more beneficial: sealed-bid auctions.

In this post, we will explain seven things you didn’t know about sealed-bid auctions. (Look for the italics!) We’ll also describe how they work, their advantages and disadvantages, and when a seller should use them to sell a property.

Understanding Sealed-Bid Auctions

When most people think about an auction, they imagine a high-drama scene with seated bidders thrusting paddles into the air as an auctioneer spits syllables so quickly that his microphone inevitably ends up drenched in saliva. That’s not at all how sealed-bid auction rules work. In traditional auctions, everyone is aware who is bidding, the bid amounts, and how often individuals are bidding. Often these open interactions can spark so-called bidding wars — or make the bidding dry up altogether if everyone sees that a certain well-known individual has his or her heart set on an item.

In sealed-bid auctions, secrecy is the watchword. Somewhat similar to a reverse auction or first-price sealed-bid auction, sealed-bid auctions begin with a seller placing a property on the market and then having prospective buyers examine it. The seller sets a specific closing date and publishes a desired purchase price. Then prospective buyers submit bids detailing how much they’d be willing to pay, bids that only they, the seller, and the seller’s agent can see. Bid usually include additional information, such as:

• The date you wish to close
• Documentation displaying that you’ve secured financing or can close using cash
• Contact information for your real estate attorney, agent, or closing agent
• Any information that may distinguish you from other bidders (e.g., closing subject to contingencies, such as the sale of another property)

As in traditional auctions, the seller should select the highest bidder and sell to him or her. Second-price sealed auctions (aka Vickrey auctions) are related to sealed-bid auctions, but with the added wrinkle that the winning bidder pays the price offered by the second-highest bidder.

When it comes to closing the deal in a sealed-bid auction, note the use of the word “should” above. Unlike other kinds of auctions, sealed-bid auctions can get much more complicated when time comes to close, and failing to offer the most money doesn’t mean you won’t get the property.

Are Sealed bids Legally Binding?

One of the ways in which sealed-bid auctions differ is that winning bids are virtually never legally binding. In fact, it’s not uncommon for the winning bidder to not get the property in question, no matter if it’s a single unit or multi-family structure. Why? Sometimes the top bidder hasn’t arranged to close on the property in a way that the seller prefers (e.g., high loan-to-value financing versus all-cash financing). Sometimes another buyer has a more compelling “story” (for lack of a better word). Sometimes a seller’s sixth sense causes him or her to look askance at the bidder. In such instances, it’s not uncommon for the seller’s agent to contact lower-ranking bidders and ask them to sweeten their offers.

Similarly, as long as they haven’t signed a contract, potential purchasers can bail out at any time. Suppose that the highest bidder examines recent comparable sales and decides that he or she has overbid. There’s nothing stopping that individual from refusing to take the process any farther.

Sealed-Bid Auctions vs. Open-Bid Auctions

The so-called traditional auction to which we have referred in earlier sections is also known as an English auction or an open-bid auction. The name says it all: Everyone is aware of everyone else’s bid, and the auction process proceeds in an environment of completely open information. And as you’ve likely guessed, sealed-bid auctions are completely secret to everyone except the seller.

If you guessed that open-bid auctions tend to benefit buyers whereas sealed-bid auctions tend to benefit sellers, you’d be entirely right. A study published in Information Systems Research focusing on different kinds of auctions for information-technology services discovered that open-bid auctions were “55.3% more likely to result in a buyer’s selection of a certain service provider and 22.1% more likely to reach a contract (conditional on the buyer’s making a selection) with a provider, and they generate higher buyer satisfaction.”

When a Seller Should opt for a Sealed-bid Auction

Given the various advantages and disadvantages of value-sealed auctions, you might wonder when it makes sense for a seller to choose one in order to liquidate a particular property. Usually sellers realize their best results in a sellers market where prices are increasing and inventory is scarce. In these sorts of markets, buyers are willing to extend themselves in order to secure a property. In balanced markets or buyers markets, potential purchasers are much less willing to put up with the quirks of sealed-bid auctions.

How Sealed-bid Auctions are Used for Real Estate Sales

In the early stages of the process, sealed-bid auctions work just like any other real estate transaction. A real-estate agent lists the property, provides pertinent information, and facilitates open houses. However, unlike other sorts of auctions that include a public meeting, there’s simply a calendar-date deadline by which prospective buyers must supply their bid to the listing agent.

If you’re considering selling your property through a sealed-bid auction (or even buying one!) reach out to us at Millennium Properties. For more than two decades, we’ve helped buyers and sellers alike conduct real estate transactions. Contact us today at (312) 338-3000.