What Happens to Earnest Money at Closing?
When purchasing a home, there are a lot of questions and uncertainties that come with the territory. One of the most important aspects of the home-buying process is understanding what happens to the earnest money at closing. In this article, we’ll dive into what earnest money is, how it’s handled during a transaction, and what happens to it at closing.
What is Earnest Money?
Earnest money is a sum of money that a buyer puts down as a deposit when making an offer on a home. This deposit, also known as a good faith deposit, shows the seller that the buyer is serious about purchasing the property. The amount of the earnest money deposit is typically around 1-2% of the sale price of the home, but the actual amount can vary depending on the circumstances of the sale.
How is Earnest Money Handled During the Transaction Process?
Once the buyer and seller agree on the sale price and terms of the sale, the earnest money deposit is typically deposited into an escrow account. An escrow account is a neutral third-party account where the deposit is held until closing. This ensures that the money is secure and cannot be accessed by either the buyer or the seller until the sale is final.
The amount of earnest money that is required can vary depending on the market, the type of property being purchased, and the level of competition among buyers. In a hot market or bidding war scenario, the earnest money deposit may be higher to show the seller that the buyer is serious about purchasing the property.
What Happens to Earnest Money at Closing?
Earnest money acts as a security deposit for the seller, providing compensation in the event that the buyer defaults on the contract. The money can be used to cover any additional expenses incurred by the seller due to the buyer’s default, such as having to relist the home and potentially selling it for less than the agreed-upon price.
However, what happens to earnest money at closing depends on a few different factors. If the sale goes through as planned and there are no issues with the contract or the property, the earnest money deposit is typically applied to the down payment and closing costs.
If the deal falls through due to a contingency outlined in the contract, such as a failed inspection or financing falling through, the earnest money deposit will typically be returned to the buyer. However, if the buyer decides to back out of the sale for a reason not outlined in the contract, the earnest money deposit may be forfeited to the seller.
Why is Understanding Earnest Money Important?
As a buyer, it’s important to understand the role of the earnest money deposit and what can happen to it at closing. If the sale falls through due to a contingency outlined in the contract, you want to ensure that you are able to get your earnest money deposit back. Understanding the scenarios in which the deposit can be forfeited can prevent you from making costly mistakes.
Additionally, as a seller, understanding the role of the earnest money deposit can protect you in a situation where the buyer defaults on the contract. By having the earnest money deposit as a security deposit, you have some protection in the event that the deal falls through.
Conclusion
Overall, understanding what happens to earnest money at closing is an important aspect of the home-buying process. By understanding the role and handling of the earnest money deposit, buyers and sellers can protect themselves from financial losses and ensure a smooth transaction process. If you are considering purchasing a home, be sure to educate yourself on the role of earnest money and how it’s handled during the transaction process.
