Do You Get Earnest Money Back at Closing?
Understand the mechanics of earnest money in real estate deals: how it's applied at closing and under what conditions it's returned.
Earnest money is a deposit made by a homebuyer to a seller, demonstrating serious intent to complete a real estate purchase. This financial commitment, typically made early in the home buying process, signals the buyer’s genuine interest. It acts as a good faith deposit, securing the contract and providing assurance that the buyer intends to follow through with the agreed-upon terms. It also compensates the seller for taking the home off the market if the buyer defaults without a valid reason.
Understanding Earnest Money’s Purpose
The amount of earnest money typically ranges from 1% to 3% of the home’s sale price, though it can be higher in competitive markets. This deposit is not paid directly to the seller but is held by a neutral third party in an escrow account, such as a title company, real estate brokerage, or an attorney. The funds are securely maintained until the transaction closes or is terminated.
For the buyer, earnest money held in escrow ensures funds are not immediately accessible and can be returned under specific contractual conditions. For the seller, it provides financial protection against an unjustified withdrawal, covering potential losses from the property being off the market. The specific terms governing the earnest money, including conditions for its refund or forfeiture, are outlined in the purchase agreement.
Application of Earnest Money at Closing
When a real estate transaction proceeds to a successful closing, the earnest money deposit is not returned to the buyer as a separate cash payment. Instead, it is applied as a credit towards the buyer’s financial obligations at closing. This credit directly reduces the total amount of money the buyer needs to bring to the closing table, becoming part of the buyer’s contribution to the home purchase.
The earnest money can be credited towards various closing costs or the down payment. For example, if a buyer has a $50,000 down payment and has already paid $5,000 in earnest money, they would only need to bring an additional $45,000 for the down payment at closing. This application of funds streamlines the financial process.
The specific allocation of the earnest money, whether to the down payment or other closing costs, is reflected on the closing disclosure document. If the earnest money deposit exceeds the total amount owed at closing, including the down payment and all closing costs, the buyer receives a refund for the difference.
Factors Determining Earnest Money Disposition
When a real estate transaction does not close, the disposition of the earnest money depends on the specific terms outlined in the purchase agreement and whether contractual contingencies were properly invoked. Contingencies are conditions that must be met for the sale to proceed, allowing the buyer to terminate the contract and potentially receive their earnest money back.
Common contingencies that protect earnest money include financing, inspection, appraisal, and home sale clauses. A financing contingency allows the buyer to terminate the contract and recover their earnest money if they cannot secure a mortgage loan within the specified timeframe. An inspection contingency permits the buyer to back out if a home inspection reveals significant issues the seller is unwilling to address.
An appraisal contingency protects the buyer if the home’s appraised value comes in below the agreed-upon purchase price, allowing renegotiation or termination with the earnest money returned. A home sale contingency allows a buyer to exit the contract if they cannot sell their current home by a certain date. If a buyer terminates the contract due to a reason explicitly covered by one of these contingencies and adheres to all contractual deadlines, the earnest money is refunded.
Conversely, if a buyer decides not to proceed with the sale for reasons not stipulated in the contract, or fails to meet specific deadlines or obligations without valid contingency protection, they may forfeit the earnest money to the seller. This forfeiture compensates the seller for the time the property was off the market and for any lost opportunities.