Earnest money is a deposit made by the buyer upfront when purchasing a home. It is often referred to as a good faith payment, demonstrating to the seller your serious intent to purchase the property once certain conditions are satisfied. To safeguard the deposit, a neutral third party will hold the earnest money in an escrow account until the purchase agreement is either finalized or canceled.

Determining the Earnest Money Amount

Earnest money serves as proof of your commitment to buying a home from the seller. The amount of earnest money typically ranges from 1% to 3% of the total purchase price of a home. To illustrate, if you are purchasing a home worth $900,000, you would need to provide an earnest money deposit ranging from $9,000 to $27,000. However, it is important to note that your real estate agent might suggest a different percentage based on local customs and the prevailing market conditions.

When Earnest Money is Due

The deadline for submitting earnest money deposits is usually within three days after both the buyer and seller have reached a written agreement on the purchase contract.

How Earnest Money is Held

During the period leading up to the completion of the transaction, your earnest money deposit will be securely held in an escrow account controlled by a third-party. The third-party holding the earnest money ensures that the funds are allocated appropriately according to the terms outlined in your agreement with the seller.

Showing Proof of an Earnest Money Deposit

Earnest money is typically paid through a cashier’s check or wire transfer, as personal checks are not commonly accepted. To provide evidence of your earnest money deposit, you can present a receipt from the escrow account holder along with a cleared bank statement showing the withdrawn amount or a copy of the deposit check.

It is important to show your lender that you have made the earnest money deposit to account for the significant withdrawal from your bank account. Lenders want to ensure that you have sufficient funds to finalize the transaction when purchasing a home.

How Earnest Money is Used at Closing

The earnest money you provide will be held in your escrow account until the home purchase is finalized. Upon closing, the earnest money will go towards your down payment. Any remaining funds will then be used for closing costs or returned to you by the escrow agent.

Refunding Earnest Money

If your transaction falls through, the earnest money deposit will either be returned to you or paid to the seller. The terms of your purchase contract outline specific conditions under which the earnest money is refundable. For instance, if you have a home inspection contingency and the inspection uncovers significant construction flaws, you have the option to withdraw from the purchase and receive a refund of your earnest money. Likewise, if you have a financing contingency and encounter issues with the appraisal or approval process leading to the failure of your financing, you will be entitled to a refund.

Losing Earnest Money

It’s possible to lose your earnest money if you cancel the purchase.  If you decide to back out of the deal for reasons not covered by the contingencies in the purchase agreement, the seller may choose to retain your earnest money.  Even if you have contingencies, you may lose your earnest money if you cancel the deal after your contingencies have passed their expiration dates.

Protecting Your Earnest Money Deposit

Given that earnest money deposits usually amount to thousands of dollars, it is crucial to safeguard your funds. Utilize an escrow account, clearly understand the terms and timelines of your contingencies, fulfill your obligations, and ensure that all agreements are documented.

It is important to understand your financing options and obligations early in the buying process.  Seek the guidance of a mortgage professional early in your home-buying process.