What the Heck is Earnest Money?

What the Heck is Earnest Money?

Earnest money is a type of security deposit made during real estate transactions. It is usually delivered within 1-3 days of when the sales contract or purchase agreement is signed.

The point of earnest money is to show that you are serious about buying the property. It says to the seller, “Look, don’t worry, I am so committed to buying this property that I’m willing to give you money right now to prove it.” It’s your “skin in the game,” your show of good faith to purchase.

An earnest money deposit usually ranges from 1-10% of the sale price and is typically held in an escrow account until closing. At closing, the earnest money is applied to the down payment or closing costs.

Let’s walk through an example: 

Marlene puts an offer on a $300,000 house. Marlene’s offer included an earnest payment of 3% or $9,000. The seller accepts Marlene’s offer.

When Marlene and the seller sign the sales contract, they also agree on terms for the earnest money. One term says that the earnest money is contingent on the house passing inspection. This means that if the house fails inspection, Marlene gets her earnest money back. (Keep in mind that you will always get your earnest money back if the seller terminates the contract.) Another term says the earnest money will be applied to the down payment at closing.

For the sake of this example, let’s say everything goes smoothly with the inspection, appraisal, and rest of the transaction.

It’s closing day! What happens to the earnest money? Remember, Marlene made an earnest payment of $9,000 and the contract included a term that the earnest money would be applied to the down payment. Marlene’s total down payment is $50,000, so:

 $50,000 (total down payment due)

–  $9,000 (earnest money in escrow)

= $41,000 + closing costs (what Marlene owes at closing)

Remember, this is only an example. Your real estate contract will be personalized to you and your situation.

Earnest Money FAQ

Who holds the earnest money?

Typically, the title company holds the earnest money.

In what form do I deliver my earnest money?

Earnest money is most often delivered in the form of a personal check or wire transfer.

Where do I take the earnest money?

This depends on whether you’re writing a check or transferring the funds via your bank. You can drop off a check at the title company (your real estate agent will let you know where). If you’re sending a wire transfer, always abide by information security best practices.

To learn how to protect yourself during the homebuying process, read my blog “Gone in 60 Seconds.”