Earnest Money Deposit
The earnest money deposit, also known as a good faith deposit or, simply, earnest money, is money provided by the buyer when an offer is submitted as a way of showing the seriousness of the offer. This deposit is essentially the buyer saying: "look, I really want to buy this property and I'm putting my money on it."
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The earnest money is pledged, and should the buyer not fulfill his end of the contract, the seller can keep the money. Yes, you can lose your money. However, there are certain conditions that allow you to back out without losing it.
How Much Is the Earnest Money Deposit?
The amount of earnest money supplied depends greatly on the price of the property and the person from whom you are buying the property. For example, the earnest money on $40,000 house will probably be far less than the earnest money on a $1,000,000 property. Although, there is no rule governing the amount required, most earnest money deposits tend to be between 1 and 5% of the purchase price.
Because the seller gets to keep the earnest money if the buyer backs out without a legitimate reason, the higher the earnest money deposit, the better the chance that your offer will be accepted.
Who Holds On to the Earnest Money Deposit?
The earnest money should not be given directly to the seller. Instead, this money is usually held by a third party, most likely the title company or attorney who is handling the closing. This ensures that the rules that govern what happens to the earnest money are followed. This is most commonly done when the contract has been accepted and signed by both parties, not before. If you are working with a real estate agent, your agent will most likely tell you when and where to drop off the earnest money check.
What Happens With Earnest Money?
What exactly is the earnest money used for? What ultimately happens to it? There are three possible scenarios that could play out, depending on how the deal is don, or not done.
If the sale goes through, the earnest money becomes part of the cash the buyer would be required to bring to closing. For example, if your down payment plus closing costs came to $50,000 but you gave $2,000 earnest money deposit, you would be only required to bring $48,000 to the closing table, as directed by the title company or attorney who closes the sale
If the sale does not go through, and the buyer does not have a legal reason to back out, then deposit is forfeited to the seller, and the seller receives the deposit.
If the sale does not go through, and the buyer does have a legal reason to back out, the deposit is returned to the buyer.
What are these legal reasons mentioned above?
Most contracts contain certain provisions that outline conditions in which the contract could be terminated. These provisions are known as contingencies. In other words, the property sale is contingent on some specifically listed things. These are legal loopholes that allow you to not follow through on your contract, should one of those contingencies happen to occur.
Technically, you could have contingencies for anything you can think of.
What kind of contingencies you should put in your offer?
First, understand that the more contingencies you put in your offer, the leerier a seller will be to accept it. However, contingencies are often necessary to protect you from things you couldn't anticipate. Two most common contingencies you'll likely encounter are Inspection and Financing.
It's important to consult with a real estate agent to determine the appropriate amount of earnest money to offer in your specific situation and market conditions. They can also help you navigate the contract terms and conditions regarding the deposit.
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