Real Estate Transactions
Earnest Money: Deposit, Custody and Forfeiture
Customary deposit amounts, delivery deadlines, trust account rules and the procedure for a disputed release are all set locally. Check your state's license law and commission rules rather than assuming another market's practice applies.
An earnest money deposit is money a buyer commits alongside an offer to show the offer is serious. It works as security for the buyer's performance, and at settlement it is credited toward what the buyer owes.
Most of what exams test here is custody: who holds the funds, in what account, and on whose authority they can be released. Those rules come from state license law.
What the Deposit Is, and What It Is Not
The deposit is a term of the purchase agreement, not the thing that makes the agreement binding. A contract is formed by the exchange of promises between buyer and seller, so an agreement carrying no deposit at all can still be enforceable.
It is also not the down payment, even though it is applied toward the buyer's funds at the table. The down payment is the share of the price the buyer brings instead of borrowing; the deposit simply reduces the balance still due at settlement.
How much is customary tracks the market and the level of competition for the property. There is no national figure. What governs is the contract, which names the amount, the deadline for delivering it and the party who will hold it, and in many states license law adds its own deadline for getting received funds into the account.
How the Deposit Moves
Delivery
The contract names the amount, the person or firm receiving it, and the deadline. In many forms, missing that deadline is itself a default. A licensee who accepts a check takes on a duty to get it to the escrow holder within the time license law allows.
Custody
The funds sit in a trust or escrow account maintained for that purpose, separate from the operating money of whoever holds them. Depending on local practice the holder may be a broker, a title or escrow company, or an attorney. The holder never owns the money.
Release
Funds leave the account at closing, on a written release signed by both parties, or on an order from a court or the licensing authority. A holder facing a dispute is typically required to leave the funds in place, deposit them with a court, or follow whatever procedure the state prescribes.
Forfeiture
Where the buyer defaults with no contingency to rely on, the contract usually lets the seller keep the money, often characterized as liquidated damages. Whether that is the seller's only remedy, and whether the clause holds up as written, turns on the contract terms and state law.
Exam Points on Deposits
Trust funds are held separately. Mixing deposit money with brokerage operating funds is commingling, and every jurisdiction disciplines it.
Spending trust funds, even briefly and even intending to replace them, is conversion, and it is treated far more seriously than the recordkeeping violations that usually surround it.
The holder is a custodian, not an owner and not a judge. It cannot settle a dispute between the parties by handing the money to whichever one it believes is right.
Delivery deadlines come from two places at once: the contract, and the license law that tells a licensee how quickly to deposit funds received.
Contingencies are what make the money refundable. With no contingency covering the reason for walking away, the buyer is exposed.
The money is credited toward the price at closing. It is neither an extra cost nor the down payment.
Records follow the funds. Ledgers, periodic reconciliation and retention periods are fixed by state rule and are routine audit subjects.
Questions About Earnest Money
Who decides how large the deposit should be?
The parties do, within what the local market treats as normal for the price range and the level of competition. A larger deposit signals commitment and can strengthen an offer, and it also enlarges what is at stake in a default. The figure that binds is the one written into the contract.
What happens when both sides claim the funds?
The holder leaves them where they are until it has authority to release them: a written agreement signed by both parties, a court order, or whatever procedure the state provides, which in some places means depositing the money with a court or asking the licensing authority for a determination.
Does the buyer earn interest while the money sits?
Only where the account is set up to pay interest and the contract or state law says who receives it. Many trust accounts are non-interest-bearing by default, and several states direct interest on such accounts to a designated public fund. Check the rule in your jurisdiction.
Can an offer be written without a deposit?
It can, and acceptance would still form a contract, but sellers rarely accept one when competing offers include a deposit, because nothing is at risk if that buyer walks. Some local forms assume a deposit and have to be amended to leave it out.