You’ve heard about it, been asked for it; you may have even written a check for it. What exactly is earnest money, though, and why do you need it when you buy a house?
Earnest Money FAQ
When buying (or leasing) a home in Scottsdale, you will be asked to put up a good faith deposit to secure your position in the transaction. This consideration is known as an earnest deposit.
Earnest deposit amounts are negotiable. The amount of the deposit is one of the terms of the purchase agreement over which buyers and sellers may haggle. In my experience, a typical earnest deposit on a resale transaction is approximately 1-2% of the total sales price. Builders may require higher deposit amounts for brand new construction (largely due to the costs incurred to build your home). Banks may also require more on REO/foreclosure properties (because they are the spawn of Satan).
If you are following the standard boilerplate terms of the current AAR (Arizona Association of Realtors) purchase agreement, your earnest deposit is due upon the agreement being accepted and signed by all parties.
In nearly all cases, your earnest funds will be held by an escrow company, the neutral third party responsible for transferring ownership from the seller to the buyer. The company employed to hold these funds is another term of the purchase agreement that you negotiate with the seller. Earnest money can also be held in the trust account of one of the Real Estate brokers involved in the transaction, but this eventuality is primarily restricted to the rental arena these days. If you are buying a house, you can pretty much take it to the bank that you will be dealing with an escrow company.
- Is This Extra Money That I Have to Pay in Addition to My Down Payment and Closing Costs?
This is a common misconception. The answer is no, this is not “extra money” that you are being charged. It is a portion of your total closing funds that is simply due up front. Upon closing, your earnest deposit will be applied towards your down payment and/or closing fees.
Typically, a personal check made payable to the chosen escrow company will suffice, though some opt to wire funds to the escrow company instead.
- Can I Get My Earnest Deposit Back?
This is a loaded question, but yes, there are scenarios in which you can typically retrieve your earnest deposit. Assuming you negotiated the sale using the current AAR purchase agreement, you do have a few outs. First, you have an inspection period (usually 10 days, but negotiable). If you are not satisfied with the condition of the property, or the seller refuses your repair demands, you can withdraw from the transaction and have your earnest money refunded. Of course, this presumes that you have not agreed to any changes in the standard terms of the contract (such as purchasing “as is”, agreeing to non-refundable earnest money, etc).
Under the standard provisions of the contract, you can also get your earnest money back if your loan is declined (after your diligent effort to obtain one under the stated terms) or the home doesn’t appraise for the purchase price (unless you are paying cash as there is no appraisal/financing contingencies to fall back on). Once again, though, and I can’t stress this enough, the terms you negotiate with the seller can alter these provisions.
- What If My Deposit Turns Out to Be More Than I Owe at Closing?
Let’s say that you are employing a 100% financing vehicle, like a VA loan. Let’s also say the seller has agreed to pay for the majority of your closing costs. If the remaining costs owed by you at closing are exceeded by your initial earnest deposit, you are entitled to a refund of the excess deposit.
- Can I Lose My Earnest Deposit
Yes, you most certainly can forfeit your earnest deposit. As the purpose of this deposit is to demonstrate good faith to the seller and invest you in the successful completion of the transaction, your deposit can be forfeited to the seller as damages if you breach the agreement. Failure to close escrow, or backing out of the deal for any reason other than allowed for by a contingency to the agreement, is a surefire way to kiss your deposit goodbye. In the event that you wish to cancel a transaction, be sure to carefully review the terms of your contract with an attorney.
- Who Decides If the Buyer or Seller Gets the Earnest Money if There is a Dispute?
The escrow company that holds the deposit is charged with interpreting the terms of the contract, and has the authority to release the deposit to the party deemed NOT to be in breach of the agreement. Say you, as the buyer, decide that you aren’t comfortable with the neighborhood’s governing covenant’s, codes and restrictions (CCRs). You inform the escrow company (in writing) of your wish to cancel the transaction. The seller objects, claiming that you did not exercise your right to cancel in a timely fashion. You had 5 days from the receipt of those documents to withdraw from the purchase contract, but did not inform the escrow company of your intentions until day 7. Therefore, the escrow company decides in the seller’s favor, and releases the earnest money to him/her as liquidated damages for your breach of the agreement.
Have any additional questions regarding the role of earnest money in a Real Estate transaction? Ask away in the comment section below (or shoot me a private message if you prefer) and I will do my best to address them.
* It should go without saying that the above is not intended as legal advice. The general explanations may not directly apply to you. As every purchase contract is unique, the internet is not a reliable source for answers to questions regarding your specific agreement. Consult with your agent and/or attorney PRIOR to the execution of your purchase contract to fully understand the terms and protections afforded you.
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Please join us between 1-5 PM this Saturday and Sunday (June 7th & 8th) for an open house at 8210 E. Del Claro Drive in McCormick Ranch.
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When: June 7th & 8th, 1-5 PM
Where: 8210 E. Del Claro Dr, Scottsdale, AZ 85258
Who: Hosted by David Levy, Realty Executives
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As of this morning (2/24/12), there are 16,589 properties actively listed for sale in the Arizona Regional Multiple Listing Service, well below our peak inventory levels in the 50,000+ range at the height of the foreclosure crisis. Moreover, there are currently more homes under contract (19,962) across the Valley than currently available to purchase. 7486 properties closed escrow in the last month. At this rate, our market has just over 2 months of inventory. The supply of quality homes is anemic to the point that multiple offers and bidding wars are erupting across the greater Phoenix area on new listings. By any reasonable measure, we have stumbled into a strong seller’s market early in 2012.
So it’s time to throw your house on the market, right? As in all matters, it depends.
The case for selling
You have been trapped in a home you couldn’t sell for the past several years. Eager to downsize, upsize, relocate, etc, you’ve put your plans on hold while the market languished. Not convinced that this break in the clouds isn’t just a temporary mirage versus a sustainable recovery, you aren’t going to look a gift horse in the mouth. Buyers are buying, and climbing over each other to do so. With the summer coming up, you are going to cash out what’s left of your equity so that you can finally get on with the next phase of your life before the winter/spring visitors leave, gas prices shoot through the roof and the market returns to its regularly scheduled slump.
The Case for Waiting
Yes, the market is changing. The Real Estate signs that once lined your street are disappearing. The last house on the block sold in a day for 10k over list price. It reminds you of the market conditions from 2005 that temporarily shot your value through the stratosphere. Now your house is worth about what you paid for it in 2002. You are tempted to throw your place on the market now that there are buyers for it, but you won’t have much left over for a down payment on another place. Further, you know this is the beginning of the recovery. Why sell at the low point when values should continue to climb for the foreseeable future? You’d like a new home that more closely reflects today’s needs, but aren’t willing to dump the current one at a price that might look low with a year’s hindsight.
The Case for Compromise
Can you cover your current mortgage by renting out your house? If so, and you have the financial means to qualify for another loan without selling, you might consider that route. For those who are optimistic that the current market is a sign of better things to come, this tactic covers two bases: 1) Secures the new property at today’s prices before appreciation takes further hold, and 2) Allows for holding on to the former property for another year or two of market gains before selling for a better price.
Which Road is Right for Me?
There is no one-size fits all equation for the buying or selling of homes. In addition to the financial variables at play, there are personal and emotional considerations that don’t fit neatly into a spreadsheet. The best advice I can offer is to take a close look at your chief objectives before deciding whether this is a “good” or a “bad” time to sell your home. Real Estate sales do not take place in a vacuum. The sale of a home must be considered in tandem with the subsequent purchase and vice versa.
It is a good time for sellers, in general, but that doesn’t mean that there isn’t an even better time coming, or that it’s the “right” time for you.
Don’t hesitate to contact us for a complete review of your unique circumstances to determine if now is the ideal time to take the Real Estate plunge. We pledge objective analysis and honest opinion. Nothing more, nothing less.
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Have you been searching for a home for six months? A year? Longer?
If you have not found the home of your dreams (or, at least, the home of your needs) despite a protracted hunt, it’s time to come to grips with this stark reality: you are dreaming too big.
The home buying process is not a one-size-fits all proposition by any stretch, but there is a core truth that is applicable across the board. If you have been actively searching for a home for longer than 90 days and written nary an offer, you have set your sights too high, and it’s time to start paring back your wish list. While it’s true that you need to give the market a chance to bear that which you covet, it’s simply a pipe dream if a full quarter of a year has elapsed with no sign of your white whale breaching the active inventory.
When the market was in full free-fall, those with time on their hands had the luxury of waiting it out. Sooner or later, the 3000 square foot, 4 bedroom, custom home on an acre in North Scottsdale would dip into their price range. Alas, with the suddenly resurgent market sending prices the other way and the inventory shrinking, the opposite is potentially true. The longer you wait on a ship that is not coming in, the further out to sea the fleet gets.
So what’s a 2012 Scottsdale home buyer to do? Adapt to the market and adjust your criteria. Maybe 2800 square feet will suffice instead of the 3000 upon which you had your heart set. Could you live with 3 bedrooms and a den as opposed to 4 true bedrooms? How about half an acre instead of a full 43,560 sq ft?
Or bump up your price threshold until you break into the kind of inventory that fits the bill. In an ascending market (which, by all appearances, the Scottsdale Real Estate market has entered into after a steep and lengthy decline), time is decidedly not on your side.
Does this mean I advocate rushing out and purchasing the nearest approximation of what you want? Certainly not. The rash of purchases made out of blind fear that prices were running away from buyers forever made for a willing accomplice to the 2005-2006 bubble. It’s never a good idea to make any crucial decision from a position of fear. What I do advocate is approaching your house hunt with a little more urgency than has been necessary these past five years. In a competitive environment which has reintroduced agents and consumers to bidding wars and a limited volume of quality homes from which to choose, the laconic wait-and-see approach will hamper your ultimate chances for success.
We are early enough in our fledgling recovery that prices are still within shouting distance of their low points and 30 year interest rates continue to be reigned in on a short leash. It remains an excellent time to purchase a home for those in the market, it simply has become more difficult than saying “eenie, meanie, miney, mo” to the myriad available options that were once scattered about in abundance.
For years, we’ve counseled sellers to reassess their pricing after “x” days on the market without an offer. Now it’s the buyer’s turn.
If you have been frustrated by the current inventory, or have lost out on multiple properties due to heavy competition, you have likely set your sights too high. Make adjustments to your “must have” list or increase the amount you are willing to spend if you have been actively looking for a house longer than 3 months. You are pining for something you can’t have. In a market on the upswing, the longer you wait to take corrective action, the greater the discrepancy grows between your wish list and the world around you.
You’ve got to be hip to the new rules if you want to be a player in this market.
The role of a Real Estate agent in a transaction is an ever-evolving one. Remember sub-agency? No? That is a testament to how quickly and totally the job description has changed over the past couple of decades, with every passing generation bringing more empowerment to consumers and choices in levels of service.
The relationship between consumer and agent has shifted from the “customer” model to a “client” model in which a fiduciary obligation is owed to each principal in a Real Estate transaction. Unless otherwise agreed, the professional shuttling a buyer around on weekends in the hunt for a new home is no longer an agent of the seller, but is retained by that buyer to represent his/her interests in full in that pursuit. This is the age of buyer agency in which most modern markets currently operate.
While the relationships and allegiances in a transaction are more clearly defined now than ever (aside from the still-murky waters of dual agency, which is another post entirely), the proper representation of a buyer by a buyer’s agent is not as cut and dry as one might think; rather, market forces dictate that said agent be malleable in tactics.
Take the buyer’s appraisal contingency, for instance. It is a widely conceived and unchallenged notion that an appraisal is performed for the benefit of the buyer (more on the appraisal fallacy). After all, if the property does not appraise for the purchase price during the escrow period, the buyer has the ability to walk from the contract or to use the cudgel of a low valuation to re-negotiate with the seller. As such, it follows that a buyer’s agent would do well to simply stand aside and hope for the appraisal to come in low as it provides an opportunity to secure a potentially better deal for the client.
One thing about conventional wisdom? It typically applies to conventional circumstances.
What of an ascending market in which values are on the uptick and competition for properties is fierce? I, for one, posit that the laissez faire approach to the appraisal by a buyer’s agent may actually run contrary to the client’s interest. You see, appraisers are beholden to concrete data rooted in the values of the recent past. That’s all well and good, but there will not be support for current value in an appreciating market in three month old sale comps. There is a very real likelihood that your (as the buyer) appraisal is going to come in low in such circumstances.
So what’s the problem, you ask? Why not use that happy eventuality to your advantage to secure a better price?
Because the seller has four backup offers.
In a market such as the one we are currently experiencing here in Scottsdale, with heavy buyer demand and a drastically reduced supply of homes (down to approximately 17,000 active listings across the greater Phoenix area), bidding wars tend to result. After fighting off ten other buyers for the home of your dreams, a bad appraisal is, in all reality, going to procure one of two outcomes: 1) You bringing additional cash to closing to offset the difference between appraised value and sales price, or 2) The sale tanking.
The seller is NOT going to reduce his price when he has ready and willing backup buyers waiting in the wings to give him his price.
The role of the agent changes in that rather than the listing agent sweating out the appraisal and the buyer’s agent kicking back with his feet up, the inverse is potentially true. In my current representation of buyers, I have taken to meeting appraisers at the property (with the buyer’s permission, of course) with a copy of the contract, tax record, sales comps, pending sales, active competition, market trend reports … blueberry muffins, candy hearts, etc.
Long story long, do not accept representational practices from your agent that line up more with conventional wisdom than current reality. As market dynamics are in constant flux, so too are the tactics employed to reach your goals. Don’t buy into the notion that “x” is “good” and “y” is “bad” in a Real Estate transaction. Most every facet of a purchase is merely a variable, made positive or negative by its interpretation against the broader context of an ever-shifting landscape.
The buying and selling of homes requires a nimble partnership between principal and agent to keep up with the high-paced game of musical chairs that is the Real Estate market.
Save the dogma for your momma.