IS THE AMOUNT OF EARNEST MONEY IN A LAND SALE AND PURCHASE CONTRACT IMPORTANT ?

Please consider the following to represent a general rule.  Facts and circumstances involved in a given situation can lead to numerous legal questions and rules being brought into the mix in an otherwise relatively simple transaction.

IS THE AMOUNT OF EARNEST MONEY IN A LAND SALE AND PURCHASE CONTRACT IMPORTANT ?

The Answer:    Yes and/or No.

The Explanation:     If everything goes well, with no glitches, and the contract goes to closing, (i.e., basically the Buyer pays the purchase price and the Seller delivers the required deed), as a general rule, the amount of earnest money deposit is not really a significant item.

That said, under normal circumstances the Seller wants more earnest money to be put up with the real estate broker or escrow agent, and the Buyer prefers to put up less.  If the transaction goes to closing, the earnest money will normally be applied to the purchase price at closing, and the parties do not give another thought to the amount of earnest money the Buyer put up.

In many real estate contracts, there is a component which is commonly referred to as the “due diligence period” or the “inspection period”.  Some due diligence provisions are general and allow the Buyer to cancel the contract for any reason during due diligence with proper notice and with the earnest money to be returned to the Buyer.  Other contracts spell out specific due diligence items and limit the due diligence right to cancel to the specified items, such as getting a building permit, determination of utilities available, etc.  If a limited number of specific due diligence items are spelled out in the contract, there is generally no due diligence related “Right to Cancel” except for the specified reason(s).

Whether the “out” for due diligence is general or specific, the norm is that if the Buyer gives proper notice of cancellation during the due diligence period for a permitted reason, the deal is off and the Buyer gets the earnest money deposit back.  Basically, it’s a cut and dried situation and the parties move on with the amount of earnest money being an insignificant factor.

However, in other situations, the amount of earnest money is a really important factor.

Example: In a circumstance where there is no due diligence period spelled out in a contract or the due diligence period has expired, and the Buyer decides he does not want to close the deal.  “Some” contracts allow the Buyer to cancel a contract at any point prior to the completion of closing by simply giving the Seller notice of his desire to cancel AND FORFEITING OF THE EARNEST MONEY DEPOSIT.  If you are the

Seller, do you think that in such instance it would make a difference to you if the earnest money deposit is $1,000.00 vs $5,000.00 or more?  Sure it would.

Generally, the Seller takes the property off the market once it is under contract, so there is a chance that by the time the Buyer cancels, the Seller has missed another selling opportunity.  There are additional potential negatives for the Seller, and on top of everything else, the cancellation of a contract by a Buyer can be a tremendous emotional event for the Seller.

The bottom line in the above circumstance is, the more money the Buyer has up in the form of earnest money, the less likely he is to cancel if he has to forfeit the earnest money in order to terminate the contract.

There are other circumstances which cause the amount of the earnest money deposit to be a significant factor, but the above situation represents the “classic”.

In some regions, there could be a rule or formula for determination of the amount of earnest money to be put up in a given transaction.  Example:  a percentage of the purchase price.  However, in our area, there is no general rule other than the Seller wants more earnest money put up and the Buyer wants to put up less.

Basically, like the purchase price and other contract terms and conditions in a land contract, the amount of earnest money is a negotiable item.  In the vast majority of transactions we personally handle, once a sale and purchase contract is signed, the amount of earnest money does not really matter as most contracts do close.  However, in Buyer default or Buyer breach of contract circumstances, it’s a totally different situation.

Everyone involved in a real estate sale and purchase contract situation should remember that a deal is not a “done deal” until the actual closing occurs where all contingencies and conditions have been met, all closing documents are signed and delivered, title is clear, the Seller delivers the deed to the Buyer, and the Buyer pays the purchase price to the Seller.  Once all of that has been done, the parties “have a done deal”.