In the real estate world, there are a lot of terms and conditions to be aware of. Whether you’re new to the real estate game, or if you’ve bought and sold houses before, there’s always something new to learn. One important aspect of home buying and selling to be aware of is earnest money. Read on to find out more about this optional yet helpful agreement between buyers and sellers.
What is Earnest Money?
The definition of ‘earnest’ – showing sincere and intense conviction – fits well in this term. Simply put, earnest money in real estate is money that a buyer gives the seller to show that they are serious about purchasing the home.
Earnest money is usually paid when the buyer and seller enter a contract together, and it can be between 1% and 10% of the purchase price of the home. But how much is appropriate? The total amount depends on how competitive the market is, current inflation, and total property value. In a not-so-competitive market, earnest money deposits can be only 1-3%, but in highly
competitive markets, it can be as high as 5-10%. Keep in mind that some sellers won’t go by percentage, and will instead ask for a flat rate.
Why Do Buyers Pay Earnest Money Deposits?
- It can be used (with prior agreement) towards the down payment or closing costs
- The seller will feel more confident in taking their house off the market
- It gives you time to have inspections done, secure financing, etc.
How to Pay an Earnest Money Deposit
These deposits are usually made by some type of check or by electronic transfer into an escrow account. To protect yourself, it is best to pay into an escrow account, and not directly to the
seller.
Curious to know more about what escrow is? Have a look at my post about escrow here.
How to Secure Your Earnest Money
There are some instances that guarantee you a refund of your earnest money deposit, so you must be aware of your contract terms to avoid any nasty shocks. You can lose your earnest money by…
- Neglecting contract timelines – If you ignore the deadlines of your contract and the contract falls through, you may be unintentionally forfeiting your deposit.
- Waiving contingencies – When buying a home, you have certain contingencies, like for inspections and mortgage financing, but if you waive these, you leave yourself open to losing your deposit.
Some things that guarantee a refund are…
- You can’t secure financing – You may very much want to buy the home, but can’t get approval from the bank. In this case, you are most likely entitled to a refund of your earnest deposit.
- The seller stops the sale – When the seller cancels the sale of the home without a valid reason (like changing their mind or choosing another buyer), the buyer is entitled to a refund.
- Bad results of a home inspection – Say, for example, the home inspection reveals massive flaws like cracked foundation. The buyer is allowed to back out of the sale and get their deposit back if the results of the home inspection reveals that costly or extensive repairs are needed.
There are several other instances where you might be able to get your refund back, but because contracts can vary, you and your realtor should read all of the terms and conditions very carefully before paying any earnest money.
In summary, earnest money deposits are a good way to secure your purchase so the seller doesn’t feel compelled to choose another buyer at the last minute, and it also gives you time to get your ducks in a row before entering closing negotiations.
Have questions about earnest money, or other real estate issues? Email me at sian@sianpugh.com, and have a look at these posts to learn more about the wonderful world of real estate.
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