Protect Your Earnest Money Deposit When Buying a House
Put Your Money Where Your Mouth Is
Money talks! When you buy a house, the earnest money deposit is a way for you to show good faith when making an offer to purchase a house. Putting money on the table is a smart move. It shows the seller how serious you are about your offer and your intension to complete your contractual obligations. An earnest money deposit is a commitment. It is consideration that goes toward the total funds offered to purchase the house.
But, let’s face it; life happens! Things change. Sometimes even the best intensions go awry. When this happens, you want to be able to get your earnest money deposit back.
The earnest money deposit is also known as the Good Faith Deposit.
In California, the earnest money deposit is normally placed immediately into an escrow account. Review your contract to see exactly what happens to your earnest money deposit.
Escrow is where a neutral entity holds earnest money deposits and assures all parties complete their obligations in the transaction.
What is an Earnest Money Deposit?
Let’s consider the term, “Earnest Money Deposit”. The term itself is a clear description of your intensions. When you are earnest, it means that you are sincere and serious about your intentions to do something. A deposit is a portion of the total amount of money you pledge to do whatever you stated you would do.
When you pledge an earnest money deposit to a seller, your earnest money offer tells the seller that you intend to make every effort possible to purchase their house. Earnest money deposits are given to “seal the deal”, confirming the contract that you and the seller have mutually agreed upon.
Protecting Your Earnest Money Deposit
The first rule of protecting your earnest money deposit is to be absolutely sure you want to buy the house. If you have any hesitation at all, then by no means should you ever come out of pocket for an earnest money deposit.
Here are some ways you can protect your money:
- Do Not Offer an Earnest Money Deposit
Make an offer that does not include an earnest money deposit. To be perfectly honest, it is highly unlikely that the seller would be willing to forego the earnest money deposit. Although unlikely, it is possible that the seller may accept your offer with particular circumstances. A desperate seller might be willing to accept any offer, regardless of the earnest money deposit. Most likely, an offer that does not include an earnest money deposit would require an extraordinary offer, an all cash offer, or a quick-closing escrow. Also, a seller might be willing to forego the earnest money deposit if you allow the seller to keep the house on the market so they can continue to attract other buyers until you have removed all contingencies and are at a point in the transaction where you are obligated to purchase the house under any circumstance.
A purchase offer with no earnest money deposit is a difficult deal to sell to the seller. If you could get a deal like that it would be to your advantage, because with no money on the line, if you change your mind, or if something goes wrong, you would not have to go through the trouble of asking the seller to return your earnest money deposit.
- Request That the Earnest Money Deposit be Held With Someone You Trust
Request that the earnest money be held with someone you know and trust, like an accountant who has no financial interest in the transaction or have your broker hold the money instead of the seller’s broker.
When the earnest money deposit is held with someone you know and trust, should there be a need to request a return of your earnest money deposit, a person who knows you is less likely to hold up the return of your deposit unnecessarily.
This may be agreeable to the seller, but only if the seller has trust in the person selected to hold the earnest money deposit.
- Put Up the Earnest Money Deposit in Stages
Pledge to put up an ultimate amount for the earnest money deposit, but pledge to release incremental amounts of the money in stages. Ideally, you could make an initial deposit upon acceptance of the agreement to purchase the house. Then, at specific stages, deposit another portion of the earnest money deposit.
Let’s say you wish to pledge a total earnest money deposit of $5,000. An example of how you would pay the deposits is:
$1,000 at the acceptance of the agreement
$2,000 when the buyer has completed all inspections
$2,000 when the buyer obtains loan financing
This is a reasonable deal to sell to the seller. As the terms of the contract are fulfilled, you would deposit more funds, making you more committed to the transaction. Should you need to request a return of your earnest money deposit prior to a particular stage, the entire amount of your money is not tied up.
Protect Your Earnest Money in the Contract
Make sure you are clear about what happens with your earnest money deposit right from the start. The purchase agreement states exactly what happens with your earnest money deposit. When constructing the terms of the earnest money deposit, make sure you are clear about the following things:
- The amount of earnest money required
- When the earnest money is due
- Where the earnest money resides during escrow
- What events allow you to request your earnest money to be returned
- How much earnest money you can request to be returned
- What the procedure is for requesting your earnest money to be returned
Maximum Allowable Earnest Money Deposit
Each state has its own law about the maximum allowable earnest money deposit that is protected in each transaction. For example, in California the Bureau of Real Estate indicates that the maximum allowable earnest money deposit that will be protected is 3% of the purchase price. In any transaction, the buyer can offer more than 3% of the purchase price as earnest money, however, only an amount up to 3% will be legally protected.
Protect Your Earnest Money Deposit Prior to Negotiations
In the ideal situation, your request for a return of your earnest money deposit will not be met with opposition. In the worst case, you will have to work a little harder to receive your earnest money deposit back.
While you may have completely adhered to the contract and are completely within your right to request the earnest money deposit to be returned, the seller may try to withhold the return of the deposit by not acknowledging your request. In this case, depending on the terms of your agreement, you may have to go to mediation, arbitration, or court to have your earnest money deposit returned to you.
Your best chance of receiving your earnest money deposit back is to protect your money prior to negotiations to purchase a house.
Earnest Money Deposit Video
When Does My Earnest Money Deposit Become Non-Refundable?
When considering earnest money deposits, time is of the essence. You must act in a timely manner to make sure you are able to receive your earnest money deposit, should you wish to receive it back. Your contract clearly outlines specific timelines and incidents in which you can request your earnest money deposit back. Read your contract to be sure you understand and agree to the time lines and incidences surrounding the holding and releasing of your earnest money deposit.
Watch this video for some helpful tips about earnest money deposits and when they become non-refundable.
Beware of Sellers Requesting Sizeable Earnest Money Deposits
Be leery of sellers asking buyers to deposit earnest money deposits greater than the maximum allowable amount protected by law. These sellers know that any money deposited above 3% (in California) is money that the seller has an opportunity to argue in favor of keeping for whatever their reason. Usually, the reason is that the money is unprotected by law or the purchase agreement.
"Real estate made easy!"
Marlene Bertrand is a Broker/REALTOR®.
Calif. Bureau of Real Estate Lic. #01056418.
© 2013 Marlene Bertrand