You’ve probably heard the term “Earnest Money Deposit,” but do you know what it means?
An accepted purchase offer on a home is accompanied by an earnest money deposit—and it tells the Seller that you are “earnest” in your interest in purchasing the home. Its name describes it perfectly.
Although the earnest money deposit generally goes toward the down payment or closing costs in a home purchase, the check is usually cashed and held by the title company in an escrow account until it is needed to close the transaction.
Why do I need an Earnest Money deposit?
Without the requirement of an earnest money department, buyers could make multiple offers on homes, “shopping” around until they found one that they like best. Sellers rarely accept offers unaccompanied by earnest money as the deposit confirms that the buyers are serious and acting in good faith.
If all goes well during the transaction, the earnest money eventually helps fund the down payment or closing cost. Effectively, earnest money is just paying a portion of the down payment up front.
But don't fear--in most circumstances, buyers can get the earnest money back if something goes wrong in the home purchase as they are protected by “contingencies” such as inspections, loan or appraisal.
How much should you place in the earnest money deposit?
Although customary deposits vary from state, homebuyers can expect to provide 1-3% of the total home purchase price as an earnest money deposit. Of course, this number may vary depending on local market conditions or negotiations regarding the purchase price. Some sellers are willing to accept a lower earnest money deposit when coupled with a higher purchase price.
Work with your agent and lender to determine the best earnest money deposit amount for your circumstances and financial situation.
When do you make an earnest money deposit, and who holds it?
After your offer is accepted and you have a signed real estate purchase agreement, the contract requires that the promised money be provided to the title company.
Be sure to check the credentials of the title company to assure that the funds will be appropriately and safely held in escrow. Never give earnest money directly to the seller. At close of escrow, the funds will be released and applied to your down payment.
I’d be happy to answer any of your questions about the home-buying process. It’s my specialty to help folks like you buy homes safely. And check out my Tips for Buyers for more great home-buying tips.