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What Is an Earnest Money Deposit?

The purpose

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.  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.

Recommended Amount

Usually, buyers offer ½ to 1 percent of the sales price of the house in cash as the earnest money.  You can write a check or a cashiers check and give it to the agent representing you. Agents are authorized to accept the Earnest Money on behalf of the seller and they hold it in an interest free real estate trust account.  It should be an amount large enough that almost any buyer will think twice about walking away from the house on a whim.

Disbursement

If the sale goes through, the earnest money is used as part of your down payment.  If the sale does not go through because of a reason covered by a contingency in the contract (if, for example, you disapprove of the condition of the house after an inspection), the seller should sign a “Release of Earnest Money” and the earnest money will be refunded to you.  If, however, you back out of the deal for no valid reason, or for a reason that is not covered by a contingency,  the earnest money may go to the seller.

For Sale By Owner

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 the Title Company, and write fiduciary agent after the 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 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.