When you start the process of buying a home or any other real estate, you will probably hear the term Earnest Money Deposit (EMD), which is also known as a Good-faith Deposit (GFD). So what exactly is an EMD and how does it work in a real estate transaction?
An EMD becomes relevant when you are ready to make an offer on a property. In most states, your Real Estate Agent prepares the offer on your behalf. The offer usually takes the form of a written contract that is submitted to the seller by way of the seller's agent. In addition to the offer documents, sellers typically expect an EMD. An EMD is a monetary deposit submitted via check to demonstrate to the seller that you are a serious buyer. In some regions of the country, only a photocopy of the check is submitted with the offer, and the original check is delivered to the appropriate entity if the offer is accepted. The check is usually made out to an independent third-party such as a Title Company, Escrow Company, Real Estate Attorney or your Real Estate Broker. Ask your Real Estate Agent to clarify how deposits are handled in your region of the country.
The amount of the EMD sellers expect varies by region. The EMD amount is based on the customs and practices for a region, but is generally from 1% to 3% of the purchase price. In a competitive market place where demand exceeds the supply of homes, some buyers may offer a higher EMD than expected to impress the seller of their intent. In determining the amount of your EMD, consult your Real Estate Agent and balance the need to demonstrate your serious intent, against the good business practice of minimizing the deposit amount.
The deposit is usually applied at closing to reduce the purchase price amount or toward closing costs. For example, if you purchase $300,000 property and you give an EMD of $3000, then the remaining balance owned at closing on the loan is $297,000 (plus closing costs). Alternatively, you may direct that the EMD be applied toward the closing costs.
Once a valid contract for purchase is created, an independent third-party usually holds the EMD until the purchase is either completed or cancelled. Prior to closing, the money belongs jointly to both the seller and the buyer.
In cases where you make an offer that is accepted but later decide to cancel the offer, the terms specified in the contract (or state law) will dictate if, and under what circumstances, the EMD is returned to buyer. Be aware that you could loose your deposit if you do not not comply with the terms of your contract. Your Real Estate Agent can provide you information about how EMDs are dealt with if a contract is cancelled.
Since state law varies by region and practices can differ even within the same state, be sure to consult your Real Estate agent about the rules that apply to EMDs in your region of the country. You should also be aware that the concept of an EMD is different from the concept of a down payment on your home loan.
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