What is Escalator Clause?
An escalator clause serves to automatically raise previously agreed-upon wages or prices in response to specific changes occurring during the contract's duration. For instance, in a labor agreement, wages might be revised according to inflation, or in a business-to-business contract, prices could be adjusted based on heightened expenses. In long-term rental agreements, landlords may incorporate an escalator clause to address potential tax hikes or substantial shifts in market conditions. This provision protects both parties by automatically adapting the agreement's terms to unforeseen market changes.
How Escalator Clause Works
Cost of living index (COLI) increase: This is the most common trigger for escalator clauses in wages. The clause specifies the percentage increase in the COLI that will trigger a corresponding increase in wages.
Inflation: Similar to COLI, some clauses tie adjustments to inflation rates.
Market price changes: In contracts for goods or services, the clause might adjust prices based on changes in the market price of the underlying materials or labor.
Specific performance milestones: In some cases, an escalator clause might be triggered when a specific performance milestone is achieved, like a project completion date.
Mechanism of adjustment:
Formula-based: The clause usually specifies a formula for calculating the new price or wage. This formula might involve a fixed percentage increase, a percentage tied to the trigger condition (e.g., COLI), or a combination of both.
Negotiation: In some cases, the clause might require the parties to renegotiate the price or wage based on the trigger condition.
What are the Types of escalator clauses?
Wage escalator: Wage escalator in labor contracts ensures wages automatically adjust to changes in the cost of living or inflation.
Price escalator: Price escalator in contracts for goods or services adjusts prices based on changes in the market price of materials or labor.
The rent escalator: The rent escalator in lease agreements automatically increases rent based on a pre-determined formula.
Real estate escalator: The rent escalator allows a home buyer to automatically increase their offer if a competing offer emerges.