Earnest money and a down payment are both part of the process in a real estate transaction but they serve different purposes with differing characteristics. So what’s the difference? Let’s break it down.
Earnest Money:
Purpose: Earnest money is also known as a good faith deposit and is provided to the seller as a sign of commitment to purchasing the property.
Timing: Once your offer has been accepted by the seller, typically the earnest money payment is made.
Amount: The amount can vary but is generally a percentage of the property’s purchase price, often ranging from 1% to 3% of the sale price.
Refundable: If the terms of the contract are followed, you will most often receive your full earnest money deposit back. Additionally, if the deal falls through due to contingencies not met or other valid reasons, the earnest money is returned.
Held in Escrow: Earnest money is usually held in an escrow account by a third party such as a title company until the closing of the transaction.
Down Payment:
Purpose: A down payment is a large sum of money applied towards the full purchase of the property.
Timing: The down payment is made at the closing.
Amount: Amounts can range from anywhere between 3% and 20% or more, depending on the type of mortgage loan and the lender’s requirements.
Non-Refundable: A down payment is not refundable, as it is applied to the purchase of the property. However, if specific contract conditions are not met, there is a possibility that the down payment may be refunded.
Paid to the Seller: The down payment is used to secure the mortgage and paid to the seller of the home at the time of closing. It reduces the amount of the loan required and can reduce the mortgage payment amount.
While both payments are part of the homebuying process, earnest money is a smaller, upfront deposit made and held in escrow while a down payment is made at closing to secure the loan. When making the payments, take care to pay on secure platforms and ensure funds are not deposited to the wrong institution.