What is Earnest Money in Real Estate?

If you are a first-time home buyer you may not be familiar with what earnest money is or how that plays a role in your real estate transaction.  This blog will give you a quick overview of the purpose of earnest money, how much you should expect to put down, and help you understand when this deposit becomes non-refundable.

What is earnest money?

When drafting an offer for a home, your agent will ask you how much earnest money you would like to put down. Earnest money is like a security deposit for the sellers. It demonstrates to the sellers that you are serious about purchasing their property. In the event you should terminate the contract without a valid reason, the earnest money also acts as compensation to the seller for pulling their property off the market. 

When is the earnest money due?

This deposit is due either immediately when you submit the offer or within a few days of acceptance, depending on how the offer was written.  Therefore, be prepared to have these funds quickly available. It is very important that you submit your earnest money on time or you could risk losing your opportunity to buy the property, especially in a multiple-offer situation.

How much earnest money should I prepare for?

There is no set amount, however, the earnest money must be substantial enough to show the seller that you are acting in good faith. Typically earnest money tends to be 1% to 3% of the purchase price.  In Idaho, earnest money can be evidenced by a personal check, cashier's check, cash, or wire transfer.  We recommend using a check or wire transfer so you have a verified receipt of the deposit. 

Is the earnest money refundable?

The answer to this depends on where you are in the transaction. Many traditional sales have certain safeguards or contingencies of the sale that must be met before the earnest money is deemed non-refundable.  Up until that point, your earnest money can be returned to you.  Some contingency examples include inspections, appraisals, financing, or the sale of another property. Be sure you go over all the terms of your contract with your agent so you understand the crucial deadlines and scenarios that must be met in order to have your earnest money refunded.  Another situation in which you would get these funds back is if the seller fails to meet their contractual obligations for any reason. 

In the event you decide to back out of the deal after all these conditions have been met, then you would forfeit your money. Another instance in which you would lose your deposit is if you negotiate terms in the contract specifically stating the deposit is non-refundable. Consult with your agent about the pros and cons of this strategy as it could be risky. 

What happens to the earnest money deposit?

These funds are held in a trust account managed by the title and escrow company, a real estate brokerage, or an attorney. At closing, this deposit will be applied toward the purchase price as a credit. If the money needs to be returned for any reason due to a contingency that has not been met, the trust holder will issue you a refund check. 

Overview

The bottom line is that earnest money is a way to protect the seller from uncommitted buyers. However, there are safeguards that can be included in the contract to secure the buyer's funds should something wrong with the property be discovered or there are issues with financing.