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What Is Earnest Money?

Published on: Nov 23, 2015  16:54:11

So, you are ready to take the big step of purchasing a new home. You've met the buyer, examined the property and neighborhood and decided that you've found the one. You come to an agreement about purchase price and are ready to go ahead and complete your financing. If you are applying for a mortgage loan, it can take 3-4 weeks for it to come through. How do you ensure that the buyer will hold the property for you until your financing comes through? On the buyer's end, how does he know that you are serious about your offer and won't renege at the last minute? Here's where Earnest Money comes in.

Understanding Earnest Money.

Earnest money is money that is put down towards the purchase price to show your commitment to the deal. This money is held in escrow until the deal is finalized, at which time it is normally credited toward the down payment. The amount of money that would be required varies according to the real estate market, and normally ranges from 1-5% of the purchase price. In situations where the home is being purchased with 100% financing, the money will often be returned to the buyer to cover closing costs. In a seller's market, with many buyers competing for the same property, it can be helpful to offer a larger amount of earnest money to entice the seller to accept the offer.

What happens to the money if the deal falls through?

First, you should read your contract carefully, it may stipulate who receives the money should the deal fall through. Laws vary from state to state, and many states allow a short amount of time for the buyer to renege on the deal at no loss. After that point, in most cases the money will go to the seller if the buyer backs out of the deal and vice versa. Upon cancellation, the sellers and buyers are asked to sign mutual release instructions. If an agreement cannot be reached, the party holding the earnest money deposit will continue to hold it until an agreement is reached.

Make sure your money is held safely until the agreement is finalized:

There have been numerous instances where a broker pretended to have the authority to execute an agreement on behalf of a seller and then disappeared with the Earnest Money. It is therefore important to exercise caution and be sure your money is safe.

• Never give an earnest money deposit directly to the seller or broker.
• Make the deposit payable to a reputable third party such as a well known real estate brokerage, legal firm, escrow company or title company.
• Verify that the third party will deposit the funds into a separately maintained trust account.
• Obtain a receipt.
• It is not advisable to authorize a release of your earnest money until your transaction closes.

Buying your own home is an exciting milestone to reach. By carefully reading your contract, researching relevant laws and exercising caution when handing over money you can ensure that the deal proceeds smoothly.