What is Earnest Money?
You made an offer on a house and the sellers accepted it. Congratulations! The next step you need to take is providing the “earnest money." Considered a good faith deposit, earnest money demonstrates to the seller that you're serious about completing the purchase. It acts like transaction insurance for the buyer and the seller. Buying your first home can be overwhelming with all of the terms and steps. Here's everything you need to know about earnest money.
What is earnest money?
Earnest money is a deposit. The amount you will provide is written in your purchase agreement. If your offer is accepted by the sellers, you'll need to provide the money within a timeline that is also stated in your offer. Instead of writing a check directly to the seller, however, the earnest money deposit (also called an EMD) goes to a third-party title or escrow company that processes the real estate transaction. This company holds and protects these funds until closing. Then they apply them directly to your down payment.
Why do I need earnest money?
When a seller accepts your offer, they take their home off the market until the transaction is complete. If the deal falls through for any reason, the seller must put their home back on the market and start the selling process all over again. The lost time may also mean lost opportunities. If a buyer gets cold feet or finds another home they like better and wants to back out, the seller gets to keep the earnest money as a form of remuneration for their trouble.
How much earnest money do you need?
The amount of your deposit usually depends on the price of the property and the real estate market. Earnest money typically falls between 1% and 5% of your purchase price.1 Higher amounts are more common in a seller's market where a property may receive multiple offers. Your real estate agent will provide you with advice on how much earnest money you should offer.
Earnest money typically falls between 1% and 5% of your purchase price. Higher amounts are more common in a seller's market with multiple offers.
Is earnest money refundable?
In some cases, it is. While changing your mind isn't going to get your money back, a buyer can get their money back depending on these four contingencies2 they can write into their offer.
- Home inspection. If a home inspection reveals condition issues that are unsatisfactory to the buyer, they have the right to get out of the deal with their deposit money.
- Appraisal. If a third-party appraiser deems the property overvalued, the buyer can choose to negate the contract and get their earnest money back.
- Financing. If the offer has a financing contingency and the buyer isn't approved for a mortgage, the buyer has the right to get out of the agreement and get their deposit back. Being pre-approved for a mortgage doesn't guarantee loan approval.
- Existing home sale. If the buyer has a contingency on the sale of an existing home and can't sell the property by the timeline stated in the offer, they can back out of the contract and get their earnest money back.
It's important to note that each of these contingencies has deadlines. If the buyer misses the deadline to back out of the deal due to a certain contingency, they may have to forfeit their earnest money. Of course, if the seller backs out of the contract for any reason, the escrow money will be refunded to the buyer.
Buying a home, especially when you're a first-time home buyer, is an exciting time. It's also a serious purchase. Earnest money helps ensure a smooth transaction that can help you secure the home of your dreams.
Important disclosure information
This content is general in nature and does not constitute legal, tax, accounting, financial or investment advice. You are encouraged to consult with competent legal, tax, accounting, financial or investment professionals based on your specific circumstances. We do not make any warranties as to accuracy or completeness of this information, do not endorse any third-party companies, products, or services described here, and take no liability for your use of this information.
- Bill Gassett, “Earnest Money: A Primer for New Agents," REALTOR Magazine, published January 9, 2020, accessed July 17, 2021. Back
- Kevin Graham, “Earnest Money: What Is It and How Much Is Enough?" Rocket Mortgage, published May 11, 2021, accessed July 19, 2021. Back
People are also reading
Do you have questions or ideas?
Share your thoughts about this article or suggest a topic for a new one