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Earnest Money Deposits and VA Loans

If you read a sales contract carefully, and you should if you haven’t, you’ll soon realize it’s pretty serious. Various responsibilities are assigned all parties signing the contract including when the buyers must have their loan fully approved, the seller must provide an existing survey or abstract and who will pay for certain closing costs among a host of other instructions.

The sales price gets the most attention and rightfully so because that number is the single most important part of the contract. If there is no agreement on the price there is no deal. The buyer may make an initial offer while the seller can make a counter or refuse the offer altogether. When the seller makes a counter proposal the buyer can then accept the seller’s suggestion or counter yet again. This back and forth between buyers and sellers can last as long as both can stand it. Yet once they come to an agreement and all parties execute the contract with signatures, the seller expects one more thing from you: an earnest money deposit.

In Consideration

Earnest money can be taken literally. Providing a cash deposit to be held by a third party shows the seller how “earnest” you are in your offer and fully intend to take the sale all the way to the closing table successfully. This money placed is sometimes referred to in contractual language as “consideration” where something of value is promised to someone else in the course of signing an agreement. The buyers show how serious they are by placing an earnest money deposit knowing if they don’t follow through the earnest money is at risk of being lost to the seller.

How much should an earnest money deposit be? It can depend upon local custom but expect to put one to two percent down. Yet the money isn’t all lost for the sole reason you didn’t close on time. The earnest money deposit does more than just financially express your conviction it protects the seller. But you’re protected as well and just because the loan didn’t close or some other milestone was missed doesn’t mean you say “goodbye” to your hard earned cash.

Getting It Back

The earnest money deposit is held by a third party, typically the entity that will handle your settlement at the closing table. When you arrive at the closing your earnest money will be credited back to you and applied to your down payment or closing costs. Yet if something goes wrong during the evaluation and approval process and the deal falls out if it’s not your fault the money is typically yours.

The first way to get your money back and cancel the contract is discovering something about the property’s physical condition that wasn’t initially disclosed to you. Once your contract is accepted you should order a property inspection. This inspection report will literally check 200-300 items throughout the property from the basement to the attic and everything in between. You order the inspection and a few days later the report is sent to your inbox.

Upon review, you see that hot water heater doesn’t operate and the basement leaks. You estimate the repairs to cost $15,000 based upon contractor quotes. At this stage you have the right to renegotiate the sales price, ask the seller to make the repairs before closing or walk from the deal entirely. Because the inspection found important issues not originally disclosed, your contract should allow you to cancel and still get an earnest money refund.

Getting your money back can also happen when an appraisal comes in lower than the sales price. Take a sales contract with a $300,000 sales price. Five days later the appraisal is completed and the value is $280,000. Because lenders use the lower of the sales price or appraised value when determining a loan amount, there are few options other than you coming in with the $20,000 difference, renegotiating the sales price to $280,000 or cancel the deal altogether.

The title report can also present an issue should there be issues that need to be resolved before the home can be sold. Is there a gasoline pipeline buried underneath the yard across the property? Are there significant easements which allow certain entities to access your property without your permission? There can be language in a sales contract that allows a buyer to withdraw due to title concerns.

Most sales contracts carry what is known as a Financing Addendum which clearly states at what point the buyers must have a clear loan approval or the earnest money can be at risk. For example, a contract states the closing will take place on the 30th but the buyers must have the loan approved by the 20th, verified by the VA lender. If not, the seller can not only keep the earnest money but cancel the contract and accept another offer. Don’t forget that when a seller accepts a sales contract the seller takes the property off of the market. The seller can accept backup offers but in essence the property is on hold until the deal closes or otherwise cancels. It’s the earnest money deposit that helps keep everyone on the ball, doing what they’re supposed to do when they’re supposed to do it. Click here to learn more about earnest money deposits from Veterans United Home Loans.

Chris Birk is executive editor of Veterans United Home Loans and author of The Book on VA Loans: An Essential Guide to Maximizing Your Home Loan Benefits. Nearly 330,000 people follow his VA Loans community on Facebook. You can also follow him on Google+.

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