Earnest Money Deposits: The Ultimate Guide
What to Know About Earnest Money When You Are Buying or Selling a Home
What to Know About Home Deposits
When you are buying a home, the deposit can be a problem area, which can lead to you losing money. If you like the look of a house and hand over earnest money, there are many ways in which this cash can be lost. As a buyer, you need to educate yourself on the process, so you don't run into the possibility of deposit forfeiture.
The earnest money deposit exists to make sure that you are genuinely interested in the property and gives the seller some security when signing a contract with you.
This deposit is separate from the down payment and is needed to secure a purchase contract with the seller. Buyers should have a firm grasp of all aspects related to the earnest money. The resource at Maximum Real Estate Exposure does an exceptional job of reviewing what you need to know. You will get the answers to all of your questions.
The purchase contract will tell you how the deposit will be dealt with, and in what situations you will get this money back. It should also cover the amount needed in earnest money and how much of a down payment will be contributed to the purchase. The mortgage will cover the outstanding balance of the purchase price. Don't confuse an earnest money deposit with your down payment - they are different.
The Amount of Earnest Money Needed
There isn't usually an across the board standard amount required for the earnest money deposit. It will depend on how strong the housing market is and what is typical for the area. You can expect to have to pay anywhere from 1 to 5 percent of the purchase price to start the house buying process. If you happen to be purchasing new construction, the required deposit may be as much as ten percent of the purchase price.
In addition, a builder may ask to hold the deposit rather than having it put into escrow. Before committing to this arrangement it would be highly advisable to speak to a real estate attorney so they can protect your interests.
If houses are in demand in the area you are looking to purchase in, you will often need to find more money for the house deposit. The seller may request a more substantial amount, or you as a buyer could offer a higher earnest money deposit to make sure you are at the front of the line. The more skin you have in the game, the better you will look in the eyes of the seller and their agent. Even in more difficult selling situations, a higher earnest amount could reduce the price the seller is willing to accept.
If you are having the full purchase price financed by the lender, you still need to pay a large enough deposit to convince the seller to sign the purchase contract with you. With a 100 percent mortgage, the earnest deposit will be returned as a credit towards the costs of closing. These kinds of arrangements can be seen when a buyer is getting their financing through the VA or USDA, which have no down payment options.
If you are using an experienced real estate agent, they will be able to guide you as to the usual amount of deposit expected, as well as the local market conditions. This should give you an advantage, making sure your offer is more likely to be successful.
Earnest Money Precautions
When it is time to pay the deposit, there are a few things you need to remember. While you are unlikely to run into problems, you are handing over a substantial amount of money, so you need to be cautious.
The deposit should be given to a trusted third party. This could be a title company, legal firm, real estate brokerage, or escrow company. The deposit should never be given to the seller. Instead, the third party will deposit the money into an escrow account.
Check with your real estate agent that this third party is known to them or look at their reputation online. Make sure that you receive a receipt when providing the deposit and verify that the money has gone into the escrow account. If anything seems wrong with the way this transaction is being handled, seek advice from someone who can be trusted on the matter.
In most real estate transactions, the earnest money is held by the listing real estate company, so it should not be a significant concern.
When an Earnest Money Deposit is Forfeited
If you fail to keep to the terms of the purchase agreement, you could lose your earnest money. The contract will have contingencies that allow you to back out of the deal should certain things happen.
The typical contingencies found in most real estate contracts are for a successful home inspection, along with procuring the necessary mortgage financing. For example, should the inspector find significant issues with the property, the purchase agreement should allow you to walk away if you aren't happy with these problems.
The purchase contract could also state the requirement to have the inspection completed by a particular deadline. If you fail to meet this timeline, you may not be allowed to walk away and still have your deposit returned to you.
The same can be said with procuring a mortgage. The contingency will read that you will be financing a certain amount of money and will have your mortgage by a specific date. If you do not request an extension to the agreed-upon time frame, you would no longer have a contingency in place. Therefore, a seller will not be obligated to return your earnest money in the event you did not close on the property.
If either you or the seller wishes to cancel the purchase agreement, mutual release instructions can be agreed to. If, however, there is a dispute between the parties on who should keep the deposit, it typically will remain in the escrow account until a decision can be reached. Often when there is an earnest money dispute, it will be settled by a court of competent jurisdiction. Usually, the third party will hold on to the money until there is agreement.
When the earnest money is held by a real estate agent they cannot arbitrarily give the money to one of the parties even if they feel it is completely justified. Deposit disputes are settled by neutral third parties.
Make sure you understand the terms in the purchase contract and your responsibilities before you sign. This will reduce the chances of you losing your deposit, should things not go as expected with the house purchase.
Final Thoughts on Earnest Money
Earnest money is not something that should be taken lightly, no matter what side of the fence you sit on. Without earnest money, there would be nothing from stopping thousands upon thousands of real estate transactions from taking place. The earnest money deposit is a significant part of any sale and will more than likely always remain that way.
Before committing to signing a real estate contract, make sure you understand the ramifications of the earnest money. If you are unsure about anything make sure you either ask your real estate agent or attorney. It is very easy to make a regrettable mistake when it comes to earnest money deposits.
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About the author: The above article on earnest money was written by Bill Gassett. Bill is a thirty-three year veteran to the real estate industry. He enjoys providing helpful information to buyers, sellers, and fellow real estate agents in order to make the best financial decisions. His work has been featured on RIS Media, National Association of Realtors, Inman News, Placester, Realty Biz News, Credit Sesame, and others.