If you are buying a home you may have to put up earnest money.
Earnest money says to a seller ” I’m serious about buying your house and this proves it.”
In this article we will define earnest money and go over some in-depth details about earnest money deposits.
Rate Search: Compare Mortgage Rates and Offers
What is an Earnest Money Deposit?
Earnest money is a deposit a buyer gives to a seller as a show of good faith. The deposit shows that the buyer is serious about buying the home and will hold up to their end of the purchase agreement.
The initial home offer will specify the amount and terms of the earnest money deposit. The earnest money may be deemed non-refundable after a set period of time, called an option period, unless there are certain conditions in which the deposit would be returned to the buyer.
Earnest money is usually held in an escrow or trust account until closing where the funds are used towards the purchase price of the home. It is not to be confused with a down payment or closing costs.
How Much Earnest Money is Needed?
The amount of earnest money will vary depending on the market. There is no set amount, but usually it equates to 1%-3% of the purchase price of the home. In some cases however, there are times in which an escrow deposit of $1,000 will do, it all depends on the seller.
As a buyer you should always try to get away with the smallest amount of money possible in the event you need to back out of the contract. With that said, sellers will be trying to get a larger earnest deposit.
In a buyers market where home sales are slow you should be able to put a smaller deposit down on a property because you may be the only offer. In a sellers market however, where multiple bids are commonplace the seller will likely require a larger deposit.
You should be working with an experienced real estate agent who can help guide you throughout the buying process, including how much earnest money is enough.
Will Earnest Money be Refunded if a Buyer Cancels?
If a buyer cancels a sales contract during the option fee then the earnest money will be returned to the buyer. However, if the contract is cancelled by the buyer after the option period the earnest money deposit is generally considered non-refundable.
How to Protect Your Earnest Money Deposit?
You should include a timeframe in which you have to cancel the purchase contract and get to keep your earnest money known as an option period.
A real estate contingency is something that needs to be met in order for the contract to be valid. For instance, a financing contingency allows you to legally cancel the contact if your financing falls through.
Contingencies you need to make sure are included:
Contingencies to Include
A financing contingency states that the agreement is contingent upon mortgage approval. If your loan is denied for reasons outside your control then you should be able to get your earnest money deposit back.
Must Sell Current Home First
If you have a home now that you must sell before you can qualify for a new mortgage, this contingency protects you. If you are unable to sell your home and therefore cannot complete the sale you can back out of the contract.
Sellers are not thrilled to except this type of contingency so it may lower your chances of having your home offer accepted.
Home Appraisal Contingency
The home appraisal is what lenders use to determine the market value of the home. If the appraisal comes back lower than the agreed purchase price you can either renegotiate the price or back out of the contract completely.
The home title, or property deed, is a document that shows the legal owner of the house. A title company will run a title check to ensure the seller has the legal right to sell the property and that there are no liens on the title.
Home Inspection Contingency
A home inspection is something that is paid for and set up by the buyer. It’s not required but highly recommended. If you have a contingency that covers the home inspection you can have the seller pay for any repairs that need to be completed prior to closing.
Who Do You Give Your Earnest Money Deposit To?
You should never give an earnest money deposit to an individual. Do not make a check out to the seller, not even your own real estate agent.
There have been cases of fraud where persons identifying themselves as agents or sellers con potential homebuyers into giving them earnest money deposits then never being heard from again.
You should always make a check out to a third-party such as a reputable real estate brokerage, title or escrow company, or law firm.
Make sure you keep a copy of the check for your records and get a receipt.
Earnest Money FAQ
Is earnest money refundable?
There is an option period in which the earnest money is refundable. After which, if the buyer cancels the real estate transaction the money is usually considered non-refiunandable. At closing, the money is usually put towards the purchase price of the home.
How much earnest money is required?
There is no set amount of earnest money that is required. It varies depending on the market, but typically it is between 1%-3% of the purchase amount.
Randall has over 15 years of experience in the mortgage and credit industries. He spends a chunk of time helping consumers understand their credit, advise them on how to increase their credit, and lending his mortgage expertise to help them find the right type of loan. Randall lives in Dallas, Texas with his two sons.