What Is Earnest Money for a Short Sale?

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Consider the pros and cons of a short sale earnest money deposit.
Consider the pros and cons of a short sale earnest money deposit. (Image: Jupiterimages/Photos.com/Getty Images)

Real estate markets are highly localized, but certain practices in the homebuying process are universal. Real estate transactions involving a ready, willing and able buyer in a competitive market typically have an earnest money deposit (EMD) requirement. These funds initiate the escrow process and show the buyer's good faith and intent to close the deal. Short sales may also require the buyer to deposit earnest money, although the terms surrounding its treatment vary.

The Basics

A check or copy of a check made out to a real estate brokerage's trust account or escrow company accompanies most offers. The amount of the deposit is reflected in the offer and varies, though the customary minimum amount is 1 percent of the sales price. A buyer must have sufficient funds in his account to cover the EMD, as it is cashed or transferred from the account once the seller accepts the offer. The purchase contract states the number of days a buyer has to remit earnest money funds to escrow. It also states the terms for refunding the EMD.

Short Sales

Short sale transactions have become widespread throughout the country, as mortgage default and foreclosure alternatives have increased dramatically due to economic downturn. In a short sale, the seller intends to sell her home for less than she owes the lender on the mortgage. The proceeds from the sale act as settlement for the account, but the lender must first approve the transaction. Short sales are notoriously tricky to navigate, as lenders vary in their timelines for negotiating and approving short sale contracts, which can lead to cancellation of a purchase contract and refund of the EMD.

Considerations

The EMD can influence a seller's decision to accept an offer. A generous good faith deposit equaling 2 percent or more of the sales price, accompanied by up-to-date documentation of the source of funds, will strengthen an offer and the seller's confidence in the buyer. Willingness to deposit funds upon seller acceptance of the contract, rather than lender approval, also gives an offer a competitive edge, although immediate deposit of the EMD is not always a requisite for short sale contracts. A good EMD on a short sale shows the seller and the lender the borrower is invested and committed to the contract and more likely to hang in there during the approval process than someone without money on the line who is still shopping and putting offers on various properties.

Warning

Although EMDs are refundable as long as the buyer acts within timeframes specified in the contract, tying up money in escrow can be daunting for buyers. Upon cancellation of a contract, the escrow company must return funds, but the buyer may be required to pay certain costs associated with the transaction.

Common reasons for cancellation of short sale contracts include the lender taking too long to approve the sale, the seller or buyer being unsatisfied with the lender's terms for approval, the home being foreclosed upon or the seller deciding to modify or seek another foreclosure alternative.

In short sales, timeframes for the deposit of good faith funds or the maximum length of time a borrower is expected to wait for a response before he can cancel are defined with a counteroffer or addendum. A short sale addendum outlines specifics concerning the EMD and may vary by state and real estate brokerage.

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