Earnest Money Deposit – Advantages and Features

Earnest Money Deposit: Explained

You must be thinking, what is the full form of EMD? Earnest money is sometimes referred to as a good faith deposit or an escrow deposit. A deposit provided to the seller as a sign of intent to close on a house sale is known as earnest money. Typically, the earnest money is not refunded. Your earnest money will be used for the cost of the house if the house sale goes through. 

By providing the seller with earnest money, you can extend the time before the official closing to complete your financing, a house inspection, and a property appraisal. Typically, the earnest money is delivered along with the signing of the sales contract or purchase agreement. All earnest money is kept in escrow up until closing. The earnest money is added to your down payment and closing fees at closing. 

Purpose of Earnest Money Deposits 

An Earnest money deposit is advantageous for both parties involved in the house purchase. It gives the homeowner some assurance that the buyer will carry through on the deal and purchase their house. 

When you purchase a home, the earnest money down payment is added to your closing fees and down payment. Wire transfers and personal or certified checks are typically used to pay earnest money. A real estate agency, law firm, or title company holds the earnest money in an escrow account until the closing.

Why Pay Earnest Money?

The majority of the time, sellers will request a good-faith deposit. It protects both the buyer's and seller's interests. Suppose the seller agrees to remove the property from the market while awaiting the outcome of the appraisal and inspection. In that case, it will demonstrate to them that you are serious about purchasing the property. 

Here’s an earnest money example: You might put down Rs. 4 lacs on a property for Rs. 40 lacs. As much as 10% may be necessary for a new building. In a real estate transaction, parties may agree to use earnest money deposit in the contract toward the buyer's closing costs or down payment. You are paying a portion of the house in advance in this situation.

How Much Down Payment Should a Home Buyer Put Down?

Your offer of earnest money will vary depending on the market and the state of the property. You might need to make a sizable offer if you want a house in a neighbourhood where cash offers and bidding battles are common. A reduced earnest money deposit in a weak market might be appropriate for a fixer-upper. 

The typical good faith deposit ranges from 1% to 3% of the property's purchase price in most real estate markets. For homes in extremely competitive markets with lots of potential buyers, it may even reach 10%. To help weed out unreliable consumers, some vendors prefer to set fixed prices.

Speaking with a knowledgeable real estate agent is the best method to establish an appropriate EMD amount. They will evaluate the market- and property-specific elements and provide a quote within the normal range. Although it is unlikely that you would lose your good faith deposit, make a reasonable offer so that you don't put your finances in danger.

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Can Earnest Money Be Lost?

Where the earnest money goes if the contract is broken depends on its terms. Most earnest money deposits in contracts include contingencies allowing buyers to back out of a deal if unforeseen circumstances arise. Let's take the scenario where a buyer's contract stipulates that the sale's conclusion is subject to an inspection's outcome. The buyer can walk away from the house with their earnest money in hand if the inspection shows undesirable issues. The initial money deposit will be given to the vendor if the buyer changes their mind. The return of funds may be impacted by the contingency's expiration date, so pay attention to it.

Three common contingencies are typically included in most basic real estate purchase contracts, giving the buyer the option to end the deal and still be eligible for their earnest money deposit refund: 

1. The Due Diligence Contingency

The buyer sets an initial window of time to investigate the state of the property, including having a home inspection performed. Let's say the inspection reveals problems that the buyer finds undesirable. Then consumers have the right to cancel the agreement and receive a refund, but only if they do so before the deadline outlined in the agreement.

2. The Appraisal Contingency

This is usually only included in offers that call for a mortgage to buy the property. The buyer designates a deadline for the lender to complete the home's appraisal. The buyer may cancel the contract and receive their earnest money if the appraisal results are less than the agreed-upon purchase price.

3. The Financing Contingency

This clause, also known as a mortgage clause, is only relevant to offers that call for a mortgage to buy the property. It is only a deadline that the buyer establishes for getting lender finance approval for the purchase of the house. If the financing falls through, the buyer may terminate the agreement and receive a full return of the earnest money as long as it happens before the deadline.

Can earnest money be returned? 

Yes, if the above contingencies are met. 

Are Earnest Funds Required for VA Loans? 

Earnest money deposits are unnecessary for VA loans, but some sellers may insist on them. Offering an earnest money deposit might be useful because it demonstrates your commitment to buying the property to sellers. If you offer earnest money, the VA stipulates that it must be your own money and cannot be a gift or a loan.

What to do to Protect Your Earnest Money Deposit?

There are a few things that you can do to protect your earnest money deposit:

• Make sure that the earnest money deposit is held in an escrow account. An escrow account is a third-party account that holds the earnest money deposit until the closing of the sale. This will protect your deposit in case the seller backs out of the deal.
• Get a receipt for the earnest money deposit. This will help you to track the deposit and to prove that you have paid it.
• Read the contract carefully. Make sure that you understand all of the terms of the contract, including the conditions under which you can lose your earnest money deposit.
• Get a home inspection. A home inspection can help you to identify any problems with the home before you buy it. This could save you money in the long run.

Work with a real estate agent. A real estate agent can help you to negotiate the purchase of the home and to protect your interests.

Good Faith Deposit Vs Earnest Money

Let us see what good faith deposit vs earnest money is all about. 

A "good faith deposit" demonstrates your intent to purchase the property, similar to an earnest money deposit. But a good faith deposit is made directly to the lender rather than the seller, which is not the case with an earnest money deposit. The good faith deposit, like earnest money, will go toward closing costs, including appraisals, credit checks, underwriting, and other loan processing fees if you close the mortgage. 

However, the amount of a good faith deposit made to a lender will change depending on their regulations. The lender will inform you of the deposit's amount, a list of the charges it covers, and the conditions under which it may be repaid. The stark difference between good-faith deposits and earnest money is that good-faith deposits are typically non-refundable.

Also, the difference between an earnest money deposit and a security deposit is that the latter is collected to conduct business, whereas earnest money is provided based on faith.

Earnest money deposits show that you have the buyer's best interests in mind, but they do not guarantee a transaction. The buyer and the seller frequently believe they are entitled to the money when a deal falls through. Having a solid contract in place makes collecting the deposit quite clear-cut. The idea of earnest money is founded on the buyer not being obligated to acquire the property under the contract terms.
A lot can go wrong between an earnest money deposit or EMD Home buying and the deal's closing. If you wish to consult real estate finance experts at NoBroker you must book a free consultation to address any hurdles including earnest money deposit. Our experts will understand your queries and provide the best solution to your home loan needs. If you’re interested, please leave a comment below this article; our executive will be in touch with you soon.

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