One of the first payments you will make while buying a house is the earnest money deposit. It is a way for buyers to “book” a particular property and initiate the process of securing a loan and closing the purchase.
Buyers can lose their earnest money deposit if the transaction doesn't go through for some reason. There are, however, certain measures that you should take to ensure that you don't lose the deposit if you back out of the deal.
What Is an Earnest Money Deposit?
An earnest money deposit is a small amount of money (relative to the selling price of a home) that buyers pay to the seller to initiate the home buying process. Earnest money is a way for buyers to show sellers they're serious about purchasing a home.
There aren't any strict guidelines about how much the earnest money deposit should be. It's usually set at around 1% or 2% of the price of the home. If a house has a lot of interest from buyers on the market, you could increase that percentage to stand out from your competition.
When calculating the upfront costs of purchasing a home, buyers should account for the earnest money deposit and down payment separately. The former communicates your intent to the seller of the property. A down payment, on the other hand, is required by lenders so that you can secure a loan.
If for some reason, you're not able to follow through with purchasing the property, you stand to lose your earnest money deposit.
How to Avoid Losing Your Earnest Money Deposit
Don't Waive Away Contingencies
A contingency is a condition that needs to be met in order for a real estate transaction to close. Buyers may include a financing contingency or inspection contingency in their contracts to protect themselves in case they don't get a loan or the house has serious defects.
There are, however, cases when buyers waive the contingencies on contracts. This is usually done in seller's markets as a way to get ahead of other buyers. Those who can't exceed the sales price by much will get rid of contingencies so that the process becomes easier for the seller.
The problem with waiving contingencies away is that you lose legal protection against certain unforeseen circumstances. For example, an inspection may reveal that the home has a major structural issue. This is an obvious deal-breaker and it makes sense to back out of the deal or to pay less. However, if you didn't have an inspection contingency in the contract, you will lose your earnest money.
Buyers should include contingencies in their contracts as much as possible to protect their interest and not lose their earnest money if they have to back out of the purchase
Reduce the Possibility of Your Loan Being Revoked
Another way buyers lose their earnest money deposit is if their loan doesn't get approved. This is an obvious no-go situation that forces buyers out of deals and leads to them losing their earnest money deposit.
To reduce your chances of being denied a loan, always maintain a healthy debt-to-income ratio. You can do this by paying down debts as much as possible and using credit cards minimally when trying to buy a home. A sudden job change or big purchase like a new car can be a red flag to lenders, so avoid those around the time you're buying your home.
The best way to minimize the chances of your loan being rejected is by getting pre-approved. A mortgage pre-approval from a lender means that they've done a hard check on your credit status and approved a loan of a specific amount. It assures you of financing unless your financial situation changes drastically.
Keep Track of Important Deadlines
There will be a lot of new information coming your way while purchasing a new home. The most important details to keep track of are the key deadlines in the process. One important deadline that will be mentioned in your sales contract is for the loan application. The buyer is required to apply for a loan by that given date.
Another important deadline is the one for inspections. When you put an inspection contingency in your contract, there will be a date within which you have to complete it and put forth any objections to the seller. If you miss that deadline, you essentially lose your ability to take advantage of that contingency.
Always put important deadlines in your calendars and reminders well ahead so that you complete all formalities on time.
Hiring a real estate agent can help you keep track of your obligations so you don't do anything that leads to you losing an earnest money deposit. Clever Partner Agents assist buyers with matters relating to financing and contingencies so they proceed with the home buying process in a safe way.
Contact Clever to set up a no-obligation call with a Partner Agent who can help you buy your home in the most affordable way possible. Buyers who work with a Clever Partner Agent get a $1,000 rebate at closing, in certain states, which can be used to cover closing costs.