Earnest Money Deposit

You've found that home of your dreams and you want to make sure that you are the front-runner in negotiations for that home. How do you tell the seller that you are serious and you are not wasting their time?

Well, all you have to do is believe that old aphorism: "put your money where your mouth is." In the case of real estate, that means an earnest money deposit.

What is Earnest Money?

Earnest money is basically an act of good faith that forces both parties to take the negotiations for a home seriously. It of course works both ways. If you are a homebuyer and you offer an earnest money deposit you should be prepared to go through with the entire proceedings. Essential it means that you are going to do everything you can to buy the home.

If you are as seller, the consequences are just as dire. Do not accept earnest money from a potential buyer who you think will not end up buying the home. As a rule you are not supposed to accept any offers from any other parties after the earnest money has been deposited into an escrow account with another broker.

So if a better deal comes along you will be unable to accept it.

In the transaction for the home does end up going through, which it usually does, the broker will then lump the earnest money in with the down payment for the home. If it does not go through, by no fault of the buyer, the earnest money is then returned to the potential buyer.

In most cases this works out for both parties and they will have an amicable relationship.

Case Study

Of course this deposit of earnest money put yet another point of conflict between the buyer and the seller, and been the source of much legal trouble over the years. The following is an example of an actually situation that occurred to a client in Rochester New York. It was an unpleasant experience for all and on that both parties did not want to repeat.

What happened was a buyer named Craig Williamson was very keen on buying the home of Tim Beyers. As an act of good faith and intent, Craig gave the real estate broker an earnest money deposit of $500. In terms of earnest money, this was not a massive sum, but it was enough to convey interest.

Then, without any warning, Craig backed out of the deal and left Tim floating in the breeze. Having wasted so much time on the negotiations Tim wanted answers as to why Craig backed out. Craig claimed that his financing had fallen through and that he wanted his $500 back.

Legal Eagle's

After checking with the broker, Tim realized that the financing had not fallen through, and in fact Craig had just not bothered to fill out all the forms for the loan application. Seeing this as negligence Tim thought that the $500 should be his. Craig on the other hand thought differently. Who is right? Who is wrong? These are the major questions.

The lesson to be learned from this is that when an earnest money deposit is required, it should be as large as possible, so that the seller knows you are serious and, it forces you to be responsible for making any kind of commitment.

In the case of Craig and Tim, the broker could not legally release a cent of the money to either party unless both signed a release form or there is a court order mandating that one of the parties is at fault and needs to relinquish the funds. So, the money languished in escrow for a long time as both parties spent more time and energy battling over its ownership.

In this particular case, Tim was probably right. Craig did not negotiate in good faith. He most likely did not pursue the loan application with the seriousness that would have indicated he wanted the property. In these cases it is always a little confusing why the buyer would not make an effort, or at least tell the seller that they are not interested anymore, but this is human nature, and it cannot be explained.

Right and Right and Wrong

Of course there are always two sides to every story and there is no telling what was going on in Tim and Craig's mind during the negotiations. There could have been disagreements that we do not know about that they aren't talking about. It could be problems with any contingencies, such as failure to attend all meeting, fix parts of the home, or allow independent inspections of the property.

It also doesn't matter what the broker believes. Obviously they have an opinion as to who should get the funds, but they are not allowed to express this opinion as the intermediary between the parties.

How long can this go on for? This depends on the state. IN the case of Craig and Tim who were negotiating in the beautiful state of New York, there is a two year statute of limitations on the transaction. This puts a little bit of a crunch on both parties.

It also puts more money on the line. If you decided to drag out the proceeding for a couple years you and the other party are going to pile up lots of legal fees, as the process has to go through the court system.

If, at the end of the court case the judge decides that one of the parties should have signed a release, that party is now responsible, for not only the sum of the earnest money deposit, but also for all legal fees incurred by the other side during the conflict.

In the case of Craig and Tim, the money spent arguing the case cost far more than the original $500. Again, this is why the earnest money deposit should be as large as possible, to prevent this petty squabbling over matters of principle.

Winners and Losers

For those of you who need closure on these types of stories, the outcome by the judge was in favor of Tim the home seller. The judge concluded that Craig had not made a concerted effort to finance a loan for the home and was therefore deemed negligent.

Tim's total legal fees came to $2,000. So, in the end Craig was forced to pay, $2,500, plus his own legal fees. Quite a pricey venture for simply flirting with the idea of buying a home. But a valuable lesson none the less.