Earnest Money Explained - Determine the Right Amount

Earnest money is a deposit made when you submit an offer, showing the seller you’re serious about buying. It’s typically 1-3% of the purchase price—$3,000 to $9,000 on a $300,000 home. The money is held in escrow and applied to your down payment or closing costs at closing. If the deal falls through due to a contingency, you get it back. If you back out without a valid reason, the seller may keep it.

What Is Earnest Money?

The Purpose

Earnest money serves as:

Good faith deposit showing serious intent
Compensation to seller if you back out improperly
“Skin in the game” for buyers
Filter for serious vs casual buyers

How It Works

You submit offer with earnest money amount
Upon acceptance, you deposit the money
Money is held in escrow (not given to seller)
At closing, money goes toward your costs
If deal falls through, disposition depends on circumstances

Earnest Money vs Down Payment

Feature	Earnest Money	Down Payment
When paid	At contract	At closing
Amount	1-3%	3-20%+
Purpose	Shows commitment	Funds purchase
Refundable	Sometimes	No
Held by	Escrow/title company	Applied at closing

How Much Earnest Money to Offer

Typical Amounts

Market Condition	Typical Amount
Buyer’s market	1-2%
Balanced market	2-3%
Seller’s market	3-5%+
Very competitive	5-10%

Factors Affecting Amount

Offer more if:

Competitive market with multiple offers
Property is highly desirable
You want to stand out
Local custom is higher

Offer less if:

Buyer’s market
You have concerns about property
Extended contingency periods
Limited funds

Market-Specific Examples

$400,000 home:

Slow market: $4,000-$8,000 (1-2%)
Normal market: $8,000-$12,000 (2-3%)
Hot market: $12,000-$20,000 (3-5%)
Competitive bidding: $20,000+ (5%+)

When You Get Earnest Money Back

Protected by Contingencies

Inspection contingency: If inspection reveals significant issues and you terminate within the contingency period, you get your earnest money back.

Financing contingency: If you’re unable to secure financing as specified in the contract, you get your money back.

Appraisal contingency: If the home doesn’t appraise for at least the purchase price and you can’t resolve the gap, you get your money back.

Home sale contingency: If your current home doesn’t sell, you get your money back (if included in contract).

Common Refund Scenarios

Scenario	Refund?
Failed inspection, within contingency	Yes
Loan denied	Yes (with financing contingency)
Low appraisal, can’t resolve	Yes (with appraisal contingency)
Changed your mind	Usually no
Found a better house	Usually no
Missed contingency deadline	Usually no

When You Lose Earnest Money

Forfeiture Situations

You may lose earnest money if:

You back out for no valid reason
You miss contingency deadlines
You fail to perform required actions
You breach the contract

Examples of Forfeiture

Cold feet: You simply decide you don’t want the house anymore. Without a contingency reason, seller keeps the deposit.

Missed deadlines: Your inspection contingency expires on Day 10. On Day 12, you find issues and try to cancel. Too late—deadline passed.

Failure to close: You have all contingencies removed but don’t show up to closing. Seller keeps deposit.

Disputed Earnest Money

When both parties claim the money:

Escrow holder won’t release without agreement
May require mediation
Could end up in court
Can tie up money for months

The Earnest Money Process

Step 1: Include in Offer

Your purchase offer specifies:

Earnest money amount
When it will be deposited
Where it will be held

Step 2: Make the Deposit

After acceptance:

Typically within 3 business days
Personal check, cashier’s check or wire
Deposited with escrow/title company

Step 3: Funds Are Held

During the transaction:

Money sits in escrow account
Earns minimal interest (usually)
Neither party can access without agreement

Step 4: At Closing

If deal closes:

Applied to down payment or closing costs
You don’t write a separate check for this amount
Shows on closing disclosure

Step 5: If Deal Falls Through

If deal terminates:

Both parties sign release
Money returned to appropriate party
Based on contract terms and circumstances

Earnest Money in Competitive Markets

Making Your Offer Stand Out

Higher earnest money signals:

Strong financial position
Serious commitment
Less likely to back out
Skin in the game

Strategies for Competitive Situations

Increase the amount:

5-10% instead of 1-3%
Shows serious intent
Puts more at risk (for both parties)

Shorten deposit timeline:

Deposit within 24 hours vs 3 days
Shows urgency and preparation

Go non-refundable (risky):

Earnest money becomes non-refundable after certain point
Very attractive to sellers
Very risky for buyers

Protecting Your Earnest Money

Include Proper Contingencies

Essential contingencies:

Inspection contingency
Financing contingency
Appraisal contingency (if applicable)

Each protects your deposit if that aspect falls through.

Meet All Deadlines

Track carefully:

Inspection deadline
Loan application deadline
Financing contingency deadline
Appraisal contingency deadline

Missing a deadline can cost you.

Document Everything

Keep records of:

All communications
Inspection reports
Loan documents
Any issues that arise

Use Licensed Escrow Holder

Ensure money goes to:

Licensed title company
Escrow company
Real estate broker’s trust account
Never directly to seller

Earnest Money Disputes

Common Dispute Causes

Cause	Issue
Inspection interpretation	Buyer says defect is major; seller disagrees
Deadline disagreement	Parties disagree on whether deadline was met
Contingency interpretation	Different reading of contract terms
Changed circumstances	One party claims unforeseen issue

Resolution Methods

Mutual agreement:

Both parties sign release
Fastest resolution
Split is negotiated

Mediation:

Third party helps negotiate
Less expensive than court
Often required by contract

Arbitration:

Third party makes binding decision
Faster than court
Decision is final

Litigation:

Court proceedings
Expensive and slow
Last resort

While Disputed

The money:

Stays in escrow
Can’t be released without agreement or court order
May be held for months
Escrow holder is neutral

State Variations

Different Rules Apply

State-specific factors:

Default earnest money amounts
Timing requirements
Who holds the money
Release procedures

Examples

State	Typical Custom
California	1-3% typical
Texas	1% common
New York	10% in some areas
Florida	Varies widely

Work with local agent who knows customs.

Tax Treatment

Not Taxable

Earnest money that becomes part of your purchase:

Not a separate taxable event
Part of your purchase price
Adds to your cost basis

If Forfeited

If seller keeps your earnest money:

Generally not deductible for buyers
Taxable income for sellers
Consult tax professional for specifics

Frequently Asked Questions

How much earnest money should I offer?

Typically 1-3% of purchase price in normal markets. In competitive markets, 3-5% or more may be expected. Your agent can advise on local norms.

Is earnest money refundable?

Yes, if you back out for a reason protected by a contingency (failed inspection, loan denial, low appraisal). No, if you simply change your mind without a valid contractual reason.

What happens to earnest money at closing?

It’s applied to your down payment or closing costs. You don’t pay it again—it’s credited to you on the closing statement.

Can the seller keep my earnest money?

Yes, if you breach the contract by backing out without a valid contingency reason or missing required deadlines.

Where is earnest money held?

In an escrow account at a title company, escrow company or real estate broker’s trust account. Never pay directly to the seller.

When do I pay earnest money?

Typically within 1-3 business days after the seller accepts your offer. The contract specifies the exact deadline.

What if there’s a dispute over earnest money?

The escrow holder won’t release funds without mutual agreement or a court order. Disputes may require mediation, arbitration or litigation to resolve.

Is earnest money the same as a down payment?

No. Earnest money is a deposit showing good faith, made at contract. Down payment is your equity contribution, finalized at closing. Earnest money is applied toward your down payment or closing costs.

Learn how much earnest money to offer and its importance