What Is Due Diligence Money and How Does It Work?
Learn about due diligence money in real estate. Understand its role in securing a buyer's inspection period and compensating sellers.
Due diligence money is a payment made by a prospective homebuyer to a seller in a real estate transaction. This payment secures the buyer’s right to thoroughly investigate the property and potentially terminate the purchase agreement within a specified timeframe. It acts as a form of compensation to the seller for taking their property off the market during this investigative period. This financial arrangement is a common practice in certain real estate markets, primarily for residential properties.
Understanding Due Diligence Money
Due diligence money is a non-refundable fee paid directly from the buyer to the seller. It grants the buyer an exclusive period to assess the property without the seller entertaining other offers. For the buyer, it provides a safety net, allowing them to exit the contract if significant issues are discovered, typically without losing a larger earnest money deposit. From the seller’s perspective, this fee provides financial protection for the time their property is unavailable to other potential buyers. This payment signals the buyer’s serious intent to purchase the home, essentially buying them time to “do their homework” on the property.
The amount varies and is determined through negotiation, influenced by factors like the home’s price and market competitiveness. Typical amounts range from a few hundred to several thousand dollars, or between 0.1% to 5% of the offer price, depending on the market and property value.
The Due Diligence Period
The due diligence money secures a specific timeframe, known as the due diligence period, for the buyer to conduct comprehensive investigations. This period typically begins once the purchase agreement is signed and the due diligence fee is paid. Its length is negotiable, commonly ranging from 14 to 30 days, but can vary based on transaction complexity.
During this period, the buyer undertakes several activities, including:
Professional home inspections to identify structural, mechanical, or safety issues.
Obtaining an appraisal to confirm the property’s market value.
Conducting a title search to verify ownership and check for liens or encumbrances.
Securing financing.
Reviewing homeowners’ association (HOA) documents.
Commissioning a survey of the property boundaries.
The buyer holds the right to terminate the contract for any reason before the due diligence period expires, without losing their earnest money deposit.
Distinguishing Due Diligence Money from Other Funds
Due diligence money differs significantly from other funds in real estate transactions, particularly earnest money. The key distinctions are the recipient and refundability. Due diligence money is paid directly to the seller, while earnest money is typically held in an escrow or trust account by a third party, such as an attorney or real estate agent.
Due diligence money is generally non-refundable; the seller retains it even if the buyer terminates the contract within the due diligence period. In contrast, earnest money is usually refundable if the buyer terminates during the due diligence period or if certain contractual contingencies are not met. Earnest money demonstrates the buyer’s overall commitment to the purchase and can act as liquidated damages if the buyer defaults on the contract after the due diligence period.
Payment and Resolution of Due Diligence Money
Payment of due diligence money occurs early in the transaction, typically upon signing the purchase agreement or shortly thereafter. The buyer usually pays this fee to the seller, often via wire transfer or personal check. Once received, the seller is generally entitled to deposit and use these funds.
If the transaction proceeds to closing, the due diligence money is typically credited back to the buyer as part of the purchase price or towards closing costs. If the transaction does not close, the outcome depends on the circumstances. If the buyer terminates the contract for any reason during the due diligence period, the seller usually retains the money as compensation for the property being off the market. Exceptions to this non-refundable nature are rare, typically occurring only if the seller materially breaches the contract or in specific circumstances outlined in the purchase agreement.