Last Updated on February 28, 2023 by Luke Feldbrugge
Many home buyers want to know, “What is earnest money?” If you are in the market to buy a home it is important to understand the function of earnest money; especially in a highly competitive housing market. It’s common to experience multiple bids on a property. Unfortunately, home buyers can find themselves losing out on potential homes unless they make their offer more competitive than everybody else who wants that home. The key to successful house hunting in a sizzling market is crafting a stellar purchase offer. Earnest money can play a key role. Here you can learn how you to use earnest money as a competitive advantage when submitting a purchase offer on a home.
What is Earnest Money?
So, what is earnest money anyway? In real estate transactions, earnest money is a good faith deposit of cash made by a potential home buyer to the home seller.
When you make a purchase offer on a home, you’re asking the seller to enter a purchase contract to sell the home. But, there can be several reasons a sale doesn’t go through, like financing falling through or a less than positive inspection. Since the seller is taking a risk in accepting your offer, it’s crucial to prove to the seller that you want the house enough to take a financial chance of your own.
Reassure the seller that you want the sale to go through by providing a check for a percentage of the down payment at the time the offer goes to the seller. This upfront money is known as earnest money. The earnest money is placed into an escrow account and may accumulate interest. The title company handling the sale usually maintains the escrow account.
How Does It Fit Into a Down Payment?
Earnest money is considered part of the down payment. The down payment is the total amount of cash that you’re contributing to the purchase of the house. Traditionally, buyers pay 20% of the purchase price in cash as a down payment and finance the rest, though a down payment can be almost any amount.
Sellers typically prefer buyers with 20% down because the buyer has an easier time obtaining a home loan. Lenders reward borrowers who present a 20% down payment with the lowest interest rates, discounted loan fees, and the most advantageous lending terms for a conventional home loan. The fact that the high down payment buyer enjoys a more straightforward loan approval process makes the seller confident that accepting an offer from that buyer will lead to a successful sale.
Should You Offer Earnest Money in a Low Down Payment Offer?
Yes. A seller is unlikely to choose a buyer who doesn’t assume some of the financial risks of the transaction. Many Heroes qualify for FHA home loans that are available with a 3.5% down payment. Then, you can make your purchase proposal even stronger by including an appropriate amount of earnest money with your offer.
Our Heroes who qualify for VA home loans do not need to make any down payment when purchasing a home. In recognition of their military service, the U.S. Government guarantees home loans for those veterans, active duty and reserve service members, and spouses who meet the eligibility requirements. VA loan recipients should focus on earnest money as an opportunity to make a strong impression on a seller.
Along with encouraging the seller to view you as a reliable buyer, you can use earnest money that you don’t need for a down payment to pay for closing costs. Any remaining funds will come back to you after the sale.
How Much Earnest Money?
Now that you know why earnest money helps boost the appeal of your purchase offer, it’s time to consider how much earnest money you should commit to buying the house. The amount of money that you offer matters because you want to make a good impression on the seller. But, not so much that you couldn’t afford to lose it. In an unlikely event, you might have to walk away from the deal due to multiple reasons.
Earnest money amounts vary depending on where you live in the United States. Earnest money totaling 2-3% of the purchase price is typical in a robust real estate market. However, the total amount is completely up to the buyer putting up the money.
Protect Your Earnest Money
The primary point of earnest money is to show the seller that you want to buy their house and are willing to risk some money to complete the sale. However, there is a small possibility with all earnest money offers that you could forfeit your earnest money. These cases are rare, but can occur when things like deadlines aren’t met on your side, or if you decided during the process the home just isn’t “the one”. Usually, if you are offering earnest money, your real estate agent will write in specific contingencies on when the earnest money will be refunded or when you will surrender it. Almost always, the money will be given to the seller if any of the purchase agreement items aren’t met and/or the sale falls through. Remember that when you determine the amount of earnest money you’re willing to put up!
Expert Real Estate Agent Advice
Smart buyers rely on their experienced real estate agent for advice on every part of the house buying process, including earnest money. Homes for Heroes real estate specialists are committed to serving Heroes in their communities all over the country. These real estate professionals possess an in-depth knowledge of real estate in their area and can offer you terrific advice concerning how to use the earnest money to strengthen your offer on the house.
As an added benefit, your Homes for Heroes real estate specialist saves you money when you buy your house. On average heroes receive $3,000 after working with our local specialists to close on a new home. Sign up today to speak with an expert Homes for Heroes real estate specialist in your community.