When buying a new home, there are a lot of terms that will be new to you. One of the biggest points of confusion to buyers is the difference between an earnest money deposit, and a down payment. Much of this confusion comes from both of them being referred to as a down payment, when they are in actuality two very different things.
Earnest Money Deposit
When you buy your home, the seller will ask you to make a deposit when you sign your purchase contract. The deposit is held in escrow by the seller’s attorney. This is not the down payment. This is a “good faith” deposit that you make that financially ties you to the transaction. Should you have a change of heart, and decide not to purchase the home, this is the amount of money at risk. The seller will often have the legal right to keep whatever deposit you agreed to make. The amount of the deposit can vary, and is negotiated at the time of offer. The deposits can generally be as low as $500, or as much as 10% of the purchase price. The deposit is returned at close, generally as a credit toward whatever money is needed for the closing.
There are circumstances that allow you to back out of a transaction without risking your deposit. Most purchase contracts have language in them outlining these circumstances. They generally are tied to your financing. There will be a date by which you must have obtained financing. If you fail to obtain a mortgage, and it is prior to that date, your deposit is generally refunded by the seller. These circumstances can be negotiated between the buyer and seller.
The down payment is made directly to the seller on the day of closing. The down payment is the difference between the sales price and the amount of the financing your receive. While there are loans available with no down payment, generally down payments range from 3-20%, or more. The amount needed for the down payment can depend on a variety of factors; loan program requirements, the buyer’s available funds, etc.