What is earnest money?

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What Is Earnest Money

The earnest money is an amount of money that the buyer puts up to show he or she is serious about purchasing the property. The money represents the buyer's commitment to buy and acts as an unofficial option on the property. After receiving an earnest money check, the seller will usually stop showing the property, and wait to see if the buyer can get a mortgage.

Earnest money is important to the transaction because it shows the seller that the buyer is operating in good faith (hence the name, "earnest"). The bigger the deposit, the more reassuring it is to the seller, who thinks, "This buyer is serious.'' It also ties the buyer to the property and keeps him or her from looking for additional properties.

How Much Good Faith Do I Have To Show?

Usually, homebuyers offer 5 to 10 percent of the sales price of the house in cash as the earnest money. The selling broker typically holds the money. It’s an amount large enough that almost any buyer will think twice about walking away from the house on a whim.

If you don't have 10 percent in cash, then put down 5 percent. Sometimes a buyer will attach a $1,000 check to the offer to purchase to show initial good faith. The rest of the deposit, or earnest money, is due when the contract is signed by both parties, or shortly thereafter.

Who Holds The Earnest Money?

The money typically goes into an escrow account held by the selling broker, but this is largely a matter of local custom or it can be negotiated. The buyer usually does not receive any interest on the earnest money being held in escrow.

When Do I Get The Earnest Money Back?

If the sale goes through, the earnest money is used as part of the cash down payment and is paid to the seller. If the sale does not go through because of a reason covered by a contingency in the contract (if, for example, the buyer could not get a mortgage), the seller should sign a release of escrow and the earnest money will be refunded to the buyer. The earnest money should also be refunded to the buyer if the sale does not go through because of a problem on the seller's side. If, however, the buyer backs out of the deal for no reason at all, or for a reason that is not covered by a contingency, return of the earnest money may go to the seller.

What If The Seller Won’t Give Back The Earnest Money?

Before you’ll get back your earnest money, the seller needs to sign a release of escrow. If the buyer and seller disagree over who is entitled to the earnest money, and the issue can’t be resolved mutually, the broker has several options: To hold onto the money until the disagreement is resolved, make a reasonable interpretation and distribute the money after giving written notice to all parties or to turn over the funds to the state real estate commission for mediation or local courts for litigation. Ask your buyer broker to explain your state law and local customs regarding this matter.

In the real world, brokers hate to be put in this position. Even though they legally can’t release the funds until the seller and buyer have resolved their differences, they become the focal point for everyone’s frustration at the situation.

FSBO (For Sale By Owner) Earnest Money

If negotiating directly with the seller without the assistance of a Realtor®, never give the earnest money directly to the seller. If you are dealing with a for-sale-by-owner seller who insists upon earnest money before a contract can be executed, write the check to their lawyer or closing attorney or your lawyer or closing attorney, and write fiduciary agent after the lawyers name. This money will then go into a trust, or escrow, account until the negotiations are completed, the contract signed, and all contingencies met. If the deal falls apart, you'll get it back. But if you give the earnest money directly to the seller, you may never see it again, or you may have to go to court to get it back.

CALL RANDY DURHAM (423) 593-2400

Send mail to randy@randydurham.com with questions, comments or requests for info.

Licensed in TN & GA (423) 664-1900