By: Jason Patton

Having been in this field for over 20 years now, I like to think myself as a true real estate expert. I've been quoted in reputable online publications like SuperMoney, and if the question is real estate related, I probably have the answer. That being said, one of the questions I answer the most is, "What is earnest money?"

Despite good intentions, northern Indiana real estate transactions aren’t always ideal. While one would think that a seller and a potential buyer would be able to agree on a price, sign the purchasing agreement, and trade the keys for a small down payment – it doesn’t always work that way. There are a few terms you have probably heard of including “buyer’s remorse” and “breach of contract.

Is earnest money required

These and other issues have the potential to arise if there isn’t a fail safe to ensure that a buyer is serious about purchasing a home. Once an offer has been made, and the purchase contract has been signed, the buyer will need to put money down to prove that he/she is serious. This money is referred to as earnest money or an Earnest Money Deposit. 

What is an Earnest Money Deposit? 

An Earnest Money Deposit is a way for a buyer to prove he or she is committed to following through with the agreements spelled out in the purchase contract. As mentioned earlier, this is considered separate from the down payment. An Earnest Money Deposit is usually paid by check and is written to the listing real estate brokerage. The money is held in escrow for the seller until the closing is finalized. 

How much money is considered acceptable? 

The amount of the deposit varies based on each individual situation. Here are some factors that should be taken into consideration when determining how much money will be deposited in earnest: 

·      Is there a high level of interest on the property from other buyers?

·      Is the property priced aggressively?

·      How quickly is the buyer able to close on the property?

·      How much less is the buyer’s offer compared to the seller’s asking price?

·      Is the property being financed or is the offer cash? If financed, what type?

·      Are there already multiple offers on the property? 

 

Industry experts have varying opinions on how much an Earnest Money Deposit should be, however, most recommend somewhere between 2-5% of the purchase price. Occasionally, sellers will disregard the percentage amount and ask for a fixed amount between $1,000 to $10,000.

Legal limits vary from state to state regarding how much of a EMD is required/allowed. When a buyer provides little or no down payment (as is the case in certain VA and USDSA loans), a higher earnest deposit will usually be required to guarantee the buyer will follow through with their mortgage. A buyer can also increase their earnest money deposit in order to make their offer appear more attractive to the seller. 

Earnest Money Deposit Payment Methods 

After the purchase contract is signed, the buyer may write a personal check for any amount UNDER $5,000. Earnest Money Deposits over $5,000 must be in the form of certified funds (money order or certified check). Checks must be delivered to the listing brokerage within the time period specified in the purchase agreement. Again, this varies from state to state. (In Indiana delivery must occur no later than 48 hours from the date of acceptance unless otherwise stated in the purchase agreement.) 

Once received, the earnest money will be deposited into an escrow account owned by the listing real estate brokerage. That said, any check(s) must be written out to the listing real estate brokerage firm. Real Estate Brokerages are under strict regulations (state-by-state) that prohibit the Earnest Money Deposit from being deposited into a business account (commingling of funds). Instead, they are required to keep a separate account for funds in escrow. 

How to protect buyers and their Earnest Money Deposit?

First and foremost, a buyer should ask for a receipt from the real estate brokerage. The following should be included on the receipt: 

·      A copy of the check on the brokerage’s letterhead

·      The signature of the person who accepted the delivery of the check

·      The date and location of when/where the check was accepted

A buyer looking to close quickly should consider using a certified check for their Earnest Money Deposit. 

Is interest earned on an Earnest Money Deposit? 

When paying an Earnest Money Deposit, a buyer should remember that the money is deposited into an account and is considered an investment. Because the deposit is made in an escrow account, the deposit can earn interest. If the total equals more than $5,000 a buyer will need to complete the IRS Form W-9 in order to acquire the interest on their deposit. 

Earnest Money Refund

What happens to the deposit if the deal falls through? 

Occasionally, a sale will fall through. The buyer might not be able to secure a down payment or they find they're unable to qualify for a mortgage. Most often, after two parties have signed a purchase agreement the seller will remove the property from active status in the MLS.

If the buyer is unable to continue with the deal, the seller has lost the opportunity to market their home to other potential buyer resulting in lost time and money. However, keep in mind when this happens the buyer has most likely already paid for inspections and an appraisal so they are out time and money as well.

State purchase contracts are generally written to heavily favor the buyer. Again, this varies from state to state, but several contingencies usually exist within the contract to protect the buyer from losing their EMD. Some of these include: 

·      Inability of buyer to obtain a mortgage

·      Inability of buyer and seller to agree upon necessary repairs after inspections

·      Appraisal not meeting amount offered for purchase

·      Seller misrepresenting condition or withholding defects on Seller’s Disclosure

·      Seller unable to deliver possession of property on agreed upon date

·      Seller unable to deliver “free and clear” title (liens or encumbrances on the property)

·      Buyer discovery of additional required insurance (i.e. flood, natural disaster)

·      Buyer discover of undisclosed encroachments on property 

(The following red text only applies to the state of Indiana. I am not a lawyer. Please seek professional council in your own state regarding earnest money deposit refunds.)

For the most part, the only time a seller has a clear-cut path to LEGALLY keep an Earnest Money Deposit is if the buyer 1) gets cold feet and tries to back out of the contract due to buyer’s remorse, or 2) fails to cooperate with their own lender in such a way as to purposely harm the transaction.  

Typically, if something happens early on in the purchase process, a seller will give up their claim to the earnest money deposit and return it to the buyer. In doing so, the seller is able to expedite the process of re-listing their home on the MLS. Unfortunately, emotions can sometimes become involved and a peaceful solution is no longer possible. 

In the event both buyer and seller fail to concede the EMD, the agents representing both sides will attempt to arbitrate on behalf of their clients. If an agreement still can’t be reached, the holder of the funds (listing brokerage) will initial the “release process.” At this time the listing principal broker will notify all involved parties by certified mail of the brokerage’s “intent to distribute” the funds to the party specified in the letter.

If neither the seller nor the buyer initiates litigation or enters into a mutual release with 60 days of the date the certified letter was sent, the broker can then release the EMD to the party specified the certified letter.

What is the most important aspect of the earnest money deposit?

Many buyers are under the impression that the earnest money is an additional cost to purchasing the home – this is not true. The Earnest Money Deposit becomes part of the down payment at closing. If the deposit is larger than the required mortgage down payment, the buyer will receive the balance at the closing. 

In conclusion, an Earnest Money Deposit is a way for a buyer to prove they are serious about following through with the purchase of a property. If you pay a higher Earnest Money Deposit, your offer will often look better to the seller. Remember – all of the earnest money will be applied to the down payment if the offer is accepted. That said, a buyer should consider putting an amount that’s equivalent to their required mortgage down payment. If the offer is rejected, the check will be returned to the buyer without being deposited. 

For more information on northern Indiana real estate (like Barrington Hills Homes for Sale) call the Julie Hall Group – Berkshire Hathaway Home Services at (574) 267-7501.