Earnest money is one of those phrases you hear all the time in real estate and it sounds scarier than it actually is.
47% of people are first-time home buyers, and many don’t know what earnest money is, what is it good for, and why it is important. Even if you bought a home in the past, it’s changed quite a bit in terms of how much you would expect to put down for earnest money.
First off, the earnest money is the consideration for the contract. So as a buyer, when you’re making an offer to a seller and trying to reach an agreement to buy the property, you will give them some money to show that you are serious. And that you will follow through with the next steps of the contract and in consideration for your performance of those items, you’re going to put earnest money down.
An example of this would be if you are shopping for a used car and you find one that you want to buy. You want to buy the car, but the seller has four other people that want to buy the car really bad also. But in order to buy the car, you have to go and get the money out of the bank, most people don’t carry that much cash. So in order for them to feel comfortable holding onto the car while you go to the bank, you’re going to give them $500. And that’s what earnest money is to buying a house. So you want to buy the house, but first, you got to get the money from the bank, or the lending company. And if you don’t get that money out of the bank or lending company you didn’t perform your end of the deal, the seller gets to keep the money.
There is no industry standard when it comes to the earnest money. But the advice we give our clients is you want to put down 1% of the purchase price. So if the purchase price of the home is $500,000, your earnest money would be $5,000.
Putting earnest money down is not an added cost. That earnest money goes towards your down payment when you close. But remember if you don’t perform or you back out of the deal without a contingency in place, the seller retains that money because they took the home off the marketplace.
Even though you put earnest money down doesn’t mean that you will automatically lose if you back out of the deal. You can have contingencies put into place. For Example, you can make an offer on someone’s house, subject to you doing a home inspection. And just like the analogy with the car, I make an offer on the car, we agree on a price, but I want to get my mechanic to look at it first. I’m going to put $500 down to hold it. And now, I’m going to have my mechanic look at it. If I don’t like what the mechanic says, I get my $500 back. Same thing with the house. You make an offer, $5,000. You get a home inspection. And if you don’t like the home inspection, you get your money back.
So that’s what earnest money is all about. It’s not scary. We recommend 1%, but it can be as low as 500. It can be as low as a dollar. You have any questions, reach out to us. We’d be happy to help.