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Earnest Money

Reviewed by Bhavana | Updated on Sep 30, 2020

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What is the Meaning of Earnest Money?

Earnest money refers to the deposit paid by a buyer to a seller, reflecting the good faith of a buyer in purchasing a home. The money buys more time to the buyer before closing the deal to arrange for funding and perform the hunt for names, property valuation, and inspections. Earnest money can be called, in many respects, a deposit on a property, an escrow deposit, or money of goodwill.

What to do to Protect Your Earnest Money Deposit?

Prospective buyers can do various things to secure their earnest money deposits:

  • Make sure the contract provides contingencies for funding and inspections. Without these, the deposit will be forfeited if, during the inspection, the buyer can't get funding or a significant defect is found.

  • Read, comprehend, and comply with the terms and conditions of the contract. For instance, if the contract specifies that home inspection needs to be done by a certain date, the buyer must meet the deadline, or they risk losing the deposit and the property.

  • Ensure that the deposit is handled properly. The deposit needs to be payable to a reputed third party, such as a well-known real estate brokerage, title company, escrow, or a law firm (never send the deposit directly to the seller). Buyers can keep the funds in an escrow account and also get a receipt.

What You Should Know

For most situations, when the sales contract or purchasing agreement is signed, the earnest money is issued. But it may also be added to the deal. After deposit, the funds are usually held until closing in an escrow account, at which stage the deposit is added to the down payment and closing costs of the buyer.

If a buyer agrees to purchase a home from a seller, both parties sign a deal. The contract may not oblige the buyer to purchase the property, as the property valuation and inspection reports can show the problems related to the house later.

Nonetheless, the contract does mean that the seller takes the house off the market while it is being checked and measured. The buyer makes an earnest deposit of money (EMD) to prove the buyer's offer to buy the property is made in good faith.

Further, the earnest money is not always refundable. For example, if a buyer fails to follow the deadline set out in the contract or if the buyer intends to not to go through the home purchase for contingencies not mentioned in the contract, the seller gets to retain the earnest money.

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