Real Estate Basics: What Is Earnest Money?
Earnest money is good faith funds the buyer deposits into an escrow account when their offer to purchase a home is accepted. It acts as an assurance for the seller that the buyer is not entering into multiple purchase contracts at once, and more importantly it indicates to the seller the buyer is committed to buying the property.
It’s typically a small percentage of the purchase price and needs to be deposited with a neutral escrow company within three business days of the offer being accepted. The amount of earnest money promised is specified in the buyer’s contract before the offer is submitted.
Purchase contracts usually contain contingency clauses allowing the buyer to back out of the sale if certain conditions aren’t met. If the buyer has a legitimate reason for backing out (professional inspections uncovered unsatisfactory conditions for example) they can do so without legal consequences and the earnest money is released back to the buyer upon termination of the contract. If the buyer breaches the contract without proper cause, the earnest money may be forfeited to the seller and additional legal action may be taken.
If it all goes well and the sale proceeds to closing the money remains in the escrow account until the sale is finalized, at which time the earnest money deposit is applied towards the total of the buyer’s down payment.