When you’re buying a home, one way to stand out from other offers is with earnest money. Earnest money, also called a “good-faith deposit,” is an upfront payment that a buyer puts down before closing to show they’re serious about their offer.
If the sale goes through, your earnest money will be deducted from the total price and can be applied to the closing costs or down payment after the loan closes. If you walk away from your offer, the money will either stay with the seller or be refunded to you. This is determined through contingencies you write into your purchase agreement, which we cover more below.
Earnest money is generally 1% to 3% of the purchase price and is usually held in an escrow account. Read on to learn more about how earnest money works and how much you should plan to pay.
How does earnest money work?
Earnest money is not always necessary when purchasing a home. If you’re in a buyer’s market — meaning there are more houses for sale than there are buyers — you may not need earnest money. However, if you’re in a seller’s market where homes are receiving multiple bids, you’ve got to do something to stand out from the crowd. A higher offer will do this, as will lenient terms for closing or waiving an inspection. Another way to stand out is to offer earnest money.
As the name implies, earnest money is an indication you’re committed to seeing the sale through. If you put up earnest money, the seller has added insurance that if you walk away, they aren’t left with nothing after having taken the home off the market. Furthermore, a seller can require earnest money as part of an offer to ensure buyers aren’t making offers on multiple homes.
Examples of earnest money
While there’s no rule about how much earnest money you need, it’s typically between 1% and 3% of the purchase price. In a competitive market, some buyers may put down even more. A good real estate agent can advise you on what amount of earnest money is appropriate in your situation.
Earnest money is typically
1% to 3%
of the purchase price.
Here are three scenarios to help you get a better idea of what earnest money is and how it works:
- Example 1: In a highly competitive market you put offers on two houses, both with earnest money deposits to ensure your bids are taken seriously. Both sellers accept your offer, but you end up retracting one. This means you lose your earnest money on one house, but you’ve secured the other.
- Example 2: A buyer wishes to make their best offer on a home and puts down a 3% earnest money deposit. As part of the purchase agreement, the buyer must sell their current residence within 60 days for the purchase to be completed. After 60 days have passed, the buyer has not been able to sell their current home; the earnest money is returned and the seller must relist. Because this contingency was written into the purchase agreement, the buyer is protected and gets the earnest money back.
- Example 3: A buyer puts in an offer with an earnest money payment of $5,000. The market is very competitive, so the buyer waives inspection contingencies, and the offer is accepted by the seller. However, the home inspection finds mold in the basement and a crumbling foundation that will need to be repaired. These findings cause the buyer to withdraw their offer, but since they didn't write in any inspection contingencies, the seller gets to keep the earnest money.
Protecting your earnest money deposit
There are many ways you can protect your earnest money when putting in an offer on a house. You need to ensure your money is going to the right place and that it will be refunded should one of your agreed-upon contingencies occur.
- Contingencies: The best way to protect your money is by writing contingencies into your purchase agreement. The most common contingencies are failed inspections and appraisals coming in lower than the sales price. Inspection contingencies can be highly subjective, but you can get your earnest money refunded if you find things such as a leaky roof, mold or faulty wiring. Likewise, if the third-party appraisal comes in much lower than the asking price, you can rescind your offer and get your earnest money back with no penalty. You may also choose to write in contingencies for financing and selling your existing home.
- Use an escrow account: Do not give cash or a check directly to the seller. Your earnest money should be held in an escrow account or with the title company until closing. Your real estate agent should explain how to keep your earnest money safe.
- Adhere to the timeline: Once your offer is accepted, the clock starts ticking and you’ll need to hold up your end of the agreement regarding closing and negotiations. You have a set amount of time to perform an inspection, to negotiate down any costs and to lock in your mortgage. If you don’t meet your deadlines, you risk losing your earnest money.
Earnest money FAQ
- How much is earnest money?
- Earnest money is usually between 1% to 3% of the home’s purchase price. However, in a very competitive market, it can be as high as 10%. On a $250,000 house, this can range from as low as $2,500 to as high as $25,000. The potential buyer can adjust the amount of earnest money to make a more competitive offer, or the seller may request a certain percentage before accepting the offer. In some markets, a fixed, flat-fee earnest money deposit may be more common than a percentage.
The amount of earnest money you put down depends on the market and how many other offers the seller is considering. To make a very competitive offer, consider putting down earnest money of 4% or 5%. For a house with an asking price of $250,000, this will be between $10,000 and $12,500.
- When is earnest money due?
- The purchase contract should state when the earnest money is due. Usually, the money is due as soon as the seller accepts the offer or soon after.
- Is earnest money required?
- While earnest money isn’t always required, it’s a good idea to offer earnest money if it’s a competitive market. This will help distinguish you as a serious buyer and encourage the seller to choose your offer over others. In many cases, a seller may choose not to accept an offer without a good-faith deposit.
Earnest money can be the difference between having your offer accepted or rejected. Know the basics, but lean on a trusted real estate agent to advise you how much earnest money to offer.
- Is earnest money refundable?
- Earnest money is refundable under certain circumstances, or contingencies, which should be stated in the offer to purchase. These financing contingencies may be related to the home inspection, the appraisal, financing and the sale of an existing home. If the seller cancels the contract, the buyer’s deposit will be returned to them.
- What happens to earnest money?
- If the sale goes through, the earnest money goes toward the buyer’s down payment or closing costs.
- When the seller keeps the money: If the buyer cancels the purchase contract for a reason not covered under the contingencies in the contract, the seller is permitted to keep the earnest money.
- When the buyer keeps the money: If the seller backs out of the agreement or the buyer cancels the contract and is protected by a contingency in the contract, the money is returned to the buyer.
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