What Is an Earnest Money Deposit?

Your offer on a home was accepted. Time to move in, right? Not quite yet. You still have to make it through closing.

According to data from ICE Mortgage Technology, as of December 2024 the entire closing process takes an average of 44 days.

The last thing a seller wants is to remove their property from a hot housing market for more than a month only to learn the potential buyer wasn't serious. That's why a buyer offers a small percentage of the purchase price as an earnest money deposit.

What is an Earnest Deposit?

An earnest money deposit, or EMD, is a payment that's held by an escrow agent during the home buying process. Essentially, it's a good-faith deposit the buyer pays to show the seller they are committed to the property. The money can then be forfeited if the prospective buyer backs out.

An earnest money deposit works similarly to a security deposit that's paid along with an offer. A check or wire transfer will be kept by the escrow agent until the real estate transaction is complete, at which point the deposit money will be applied towards the sale price.

Why is Earnest Money Important?

Sellers are likely to receive multiple offers in a short timespan, especially in a hot market. In cases like this, they’ll need ways to narrow down their pool of potential buyers, and a solid earnest money deposit can help with this process.

Earnest money can also be used to compensate sellers for the time the home was off the market if a buyer gets cold feet and pulls out of the deal for a reason not outlined in the purchase contract terms.

Another point to consider: If buyers didn't have to put down any money to make an offer, they would be able to make multiple offers on different homes, temporarily removing properties from the market they have no intention of buying in the end.

How Much Are Earnest Deposits?

The amount of earnest money a buyer needs to pay can vary by region and the competitiveness of the local real estate market. That said, it is usually about 1% to 2% of the home's purchase price (i.e., up to $8,000 for a $400,000 home).

In a slow market, putting down 1% or less may be enough. In a more competitive market, however, the seller may expect an initial deposit of more than 5%.

In very competitive home buying situations, a real estate agent may recommend an even higher earnest money deposit to prove the buyer can cover the costs and increase their chances of being chosen. Sometimes sellers may reduce the sales price in return for a larger initial deposit.

Offering too low of an earnest money deposit can risk signaling that a buyer is not serious. When deciding how much earnest money to put down with your offer, it may be best to take the advice of a real estate professional who understands all the ins-and-outs of your local market.

How Do You Pay an Earnest Money Deposit?

A buyer pays the earnest deposit funds by personal check, cashier's check, or wire transfer to the escrow account or title company; the money will then be held until the sale has been finalized.

Typically, the buyer makes the payment within a day or two after their offer has been accepted, but the timing and process can differ from state to state. Details of how the money should be applied will be spelled out in the purchase contract. In certain states, a buyer may submit a small earnest money deposit with their initial purchase offer, and then submit a larger deposit later. Your real estate agent should be able to advise you on the appropriate steps for your state.

Why Are Deposits Held In Escrow?

Escrow companies exist to hold money and property during real estate transactions, and they exist for a reason: to protect both the buyer and seller until the sale process and closing is complete. In some states, a real estate professional or an attorney will hold the deposit.

Buyers should be skeptical if they are asked to pay the deposit to the seller directly, as it can be difficult to get their money back if the deal falls through.

Once the sale has been finalized, the earnest money deposit will be applied toward the buyer's down payment and/or closing costs as outlined in the sales contract.

Is Earnest Money Refundable?

Real estate contracts should specify what happens to the initial deposit in different scenarios. As a general rule, if the seller calls it off, the buyer should be able to recover their earnest money deposit, but if the buyer gets cold feet and pulls out, then they may have to forfeit their funds. That's why earnest money deposits exist, after all.

Other cases may not be as clear cut, which is why it's important to be comprehensive when writing the purchase agreement. For example, a closing date could be specified with a stipulation about what happens to the earnest money if the papers aren't signed by that time.

The purchase contract should also include contingencies, or provisions, that must be met for a sale to close.

Some of the most common contingencies are:

• A home inspection contingency to ensure the condition of the property matches the listing
• A home appraisal to ensure the selling price is fair and the home is valuable enough to act as collateral for the mortgage
• A financing contingency so a buyer isn't locked into a purchase they can't afford if their mortgage isn't approved
• Successful sale of the buyer's current home (if applicable)
• Assurance from a title company that the seller actually owns the property

Laws governing if buyers can recover their earnest money when a real estate deal fails vary by state, but you should work with your agent or real estate attorney to specify contingencies in the purchase contract.

Buyers who waive their chance to recoup their deposit may be more appealing to sellers, but it's considered unwise to do so for factors outside of your control, like whether the house passes inspection or appraises at the purchase price.

If a certain scenario wasn't specified in the agreement, or if there's a dispute, the buyer may need to take legal action to recover their deposit.

The Bottom Line

Earnest money exists for two primary reasons:

1. To help a potential buyer strengthen their offer on a new home.
2. To protect the seller from losses if a buyer isn't able to follow through.

While it may seem like an obstacle for a buyer, it can make the difference that allows you to land the home of your dreams before it's snatched away.