Definition of Earnest Money

What is it and why is it necessary?

Earnest Money, often translated as "sinal" or "valor de sinal" in Portuguese, refers to a cash deposit made by a real estate buyer in favor of the seller as a sign of their serious intention to complete the purchase. Think of it as a gesture of good faith that says: "I'm committed to this purchase and I'm not just 'browsing' the market."

This deposit has a dual function. Firstly, it offers the seller some compensation if the buyer withdraws from the deal without a valid reason stipulated in the contract. Secondly, it serves as an incentive for the buyer to go ahead with the transaction, since they risk losing this money if they don't fulfill their part of the agreement.

Example: John wants to buy a house in Florida valued at $300,000. After negotiating with the seller, he agrees to deposit $6,000 (2% of the house's value) as earnest money. This amount demonstrates his seriousness about going ahead with the purchase.

Difference between "earnest money" and entry

While the earnest money serves as a sign of commitment and is a small fraction of the purchase price, the down payment is a substantially larger amount that the buyer pays when closing the deal. The down payment is the portion of the purchase price that is not financed.

Earnest money is often credited to the buyer in the final transaction and can be used to contribute to the down payment or closing costs. So while both earnest money and down payments are part of the home buying process, they have different purposes and magnitudes.

Example: Continuing with João's example, after his mortgage has been approved, he decides to make a down payment of 20% on the house, i.e. $60,000. The "earnest money" of $6,000 that he has already deposited can be used as part of this down payment, so he would only need to put down another $54,000 at closing.

The Purpose of Earnest Money

Demonstration of the buyer's seriousness

When a buyer is interested in a property, there may be other potential buyers also looking at the same property. In a hot market, this competition can be intense. The act of putting down "earnest money" is a tangible way for the buyer to demonstrate to the seller their genuine intention and commitment to acquiring the property.

This deposit not only indicates that the buyer is genuinely interested, but also that they are financially prepared to go ahead with the purchase. For the seller, it is a clear indication that the buyer is not just "testing the waters" or trying to buy time while deciding on other properties.

Example: Maria is selling her house in Florida and receives two offers. The first buyer makes an offer with no earnest money, while the second buyer, Roberto, offers the same amount but with $5,000 of earnest money. To Maria, Roberto's offer seems more attractive and serious, since he has put money on the table as a guarantee of his intention.

Protection for the seller against undecided or withdrawn buyers

The process of selling a property can be long and often emotionally draining. When a seller accepts an offer, they usually withdraw their property from the market, turning down other offers and potentially missing out on other sales opportunities. If a buyer decides to abandon the transaction without a valid reason (as stipulated in the contract), this can result in significant costs and lost time for the seller.

The earnest money serves as a safeguard for the seller in such cases. If a buyer withdraws without a contractually valid reason, the seller may be entitled to retain the earnest money as compensation for the inconvenience and costs incurred.

Example: Pedro made an offer on a house and deposited $10,000 of "earnest money". However, he changed his mind a week later, without any valid reason provided for in the contract (such as problems found during an inspection). The seller, after counting on selling to Peter and losing other potential buyers, can retain Peter's earnest money as compensation.

Amount of Earnest Money

How the amount is determined

The amount of earnest money is often a percentage of the property's purchase price. Although this percentage can vary, it is usually stipulated on the basis of local regulations, market practices or the seller's specifications. In some cases, it can be a fixed amount, especially if the market is very competitive and the buyer wishes to make their offer stand out.

However, the amount is not immutable. It can be the subject of negotiation between the buyer and the seller. In many cases, the amount is determined so that it is significant enough to show the buyer's commitment, but not so high as to be prohibitive.

Example: On a house valued at $250,000, if common practice is 1% of the sale price, the suggested "earnest money" would be $2,500. However, in a highly competitive market, a buyer may offer $5,000 or more to make their offer more attractive.

Common variations in the Florida market

In the Florida market, the typical earnest money figure can vary, but is often between 1% and 3% of the property's purchase price. However, in areas of high demand or luxury properties, this percentage can be higher to demonstrate seriousness and financial capacity.

It is up to the buyer, in consultation with their broker or real estate agent, to determine the appropriate amount based on the specific market and the property of interest.

Comparison with other regions or countries (such as Brazil)

In other countries, the concept and practice behind "earnest money" may exist, but the nomenclature, values and specific practices may vary. In Brazil, for example, there is the "down payment", which works in a similar way to "earnest money", demonstrating the buyer's commitment to completing the transaction. However, practices relating to the amount, return and retention of this amount may vary from those in the United States. The percentage or specific amount can also be influenced by local factors, such as the state of the economy, real estate laws or cultural norms.

Earnest Money Deposit

How, where and when the money is deposited

Once the buyer and seller agree on the amount of earnest money, the next step is to deposit it. In Florida, once the offer has been accepted, there is usually a specified period (such as 1-3 days) for the buyer to deposit the earnest money.

The money is often deposited in an "escrow" account, which is a special account held by a third neutral. This account is separate from the regular operating accounts of the escrow company or real estate broker. In addition, it is essential to ensure that this escrow account complies with Florida laws and regulations.

Example: Juliana made an offer on a condominium in Miami and her agreed earnest money was $8,000. Once her offer has been accepted by the seller, she has 2 working days to transfer this amount to the escrow account of the title company or the realtor.

The role of the escrow (neutral third party) in managing earnest money

The escrow company or agent plays a crucial role, acting as an impartial intermediary between the buyer and the seller. They ensure that the earnest money is held securely and only released when certain contractual conditions are met.

The main purpose of using a neutral third party is to ensure that neither party has access to the money until all the conditions of the contract have been met. The escrow protects the interests of both parties:

  • For the sellerThis guarantees that the money is safe and will be returned to him if the buyer withdraws without a valid reason.
  • For the buyerThe "earnest money" agreement guarantees that the money will only be handed over to the seller once all the contractual conditions (such as satisfactory inspections) have been met. If the deal is not concluded for reasons specified in the contract, the earnest money is returned to the buyer.

Example: Lucas is buying a house in Florida and has deposited $10,000 of earnest money into an escrow account. During the inspection of the house, significant problems are discovered in the roof which the seller refuses to fix. As a satisfactory inspection was one of the conditions of the contract, Lucas decides to cancel the purchase. The escrow company then returns the $10,000 to Lucas, as the contractual condition was not met.

Earnest Money Return Conditions

Under what circumstances can the buyer get their money back

The earnest money is a guarantee of the buyer's commitment. However, there are circumstances in which the buyer can recover this amount without penalty. These circumstances are generally defined in the clauses of the purchase contract and are known as contingencies.

Common clauses allowing return

  1. Unsatisfactory home inspections: Many purchase contracts include an inspection clause that allows the buyer to hire a professional to inspect the property. If significant problems are discovered (which were not previously disclosed or are not visually apparent) and the seller refuses to correct them or negotiate the price, the buyer can choose to withdraw from the purchase and recover their "earnest money".

Example: Leticia makes an offer on a house in Orlando. During the inspection, it is discovered that the electrical system is faulty and would require a major renovation. If the seller refuses to pay for the renovation or reduce the sale price, Leticia can withdraw from the contract and have her earnest money returned.

  1. Failure to obtain financing: Even if a buyer is pre-approved for a loan, there may be circumstances in which they are unable to obtain financing. If the contract has a financing clause, the buyer can recover the earnest money if they are unable to finalize the loan.

Example: Rodrigo was about to buy an apartment in Miami Beach. Although he was initially pre-approved for a loan, a change in his employment status caused the bank to reconsider and eventually deny financing. Thanks to the financing clause, Rodrigo was able to cancel the purchase and get his "earnest money" back.

  1. Failure to meet the closing deadline: If the seller fails to meet the deadline set for closing the sale, the buyer can choose to terminate the contract and recover the "earnest money", depending on what was established in the contract.

Valuation lower than the sale price, in which case it must be specified in the contract that this contingency exists: If the property is valued at less than the agreed price and the seller refuses to reduce the price, the buyer may have the right to withdraw from the purchase and receive the earnest money back, if there is a valuation clause in the contract.

Earnest Money Loss Conditions

Situations in which the buyer may lose the "earnest money"

The earnest money serves as a guarantee of the buyer's commitment to go ahead with the purchase. If the buyer withdraws from the transaction without a valid reason stipulated in the contract, they risk losing this amount. Some common situations include:

  1. Withdrawal without justification: If a buyer simply changes his mind about the purchase, without a specific reason provided for in the contract, the "earnest money" will probably be forfeited and handed over to the seller as compensation.
  2. Failure to meet deadlines: Many contracts stipulate specific deadlines for certain actions, such as carrying out inspections or obtaining financing. If the buyer fails to meet these deadlines, they could lose the earnest money.

Example: Carolina has 10 days, according to the contract, to carry out an inspection of the property. If she doesn't do the inspection within this period and then decides to back out because of problems discovered later, she could lose her "earnest money".

  1. Non-compliance with other contractual clauses: If the buyer fails to meet other conditions or contingencies listed in the contract and withdraws from the purchase, they could lose the earnest money.

Example: Pedro, after making an offer on a house, discovers that he cannot obtain the necessary financing. However, if his contract doesn't have a financial contingency clause and he withdraws from the purchase, the "earnest money" will probably be lost.

The importance of understanding deadlines and contractual clauses

Every sales contract is a binding legal document that stipulates the rights and obligations of both parties. To protect their interests and their "earnest money", it is crucial that buyers..:

  • Read the contract carefully and make sure you understand all the clauses and contingencies.
  • Be aware of all deadlines and adhere to them strictly.
  • Communicate regularly with your broker or real estate agentas well as with any other professionals involved, to ensure that all steps are completed as required.

Example: Sofia, excited about buying her new apartment in Tampa, forgets to send in the necessary documentation for her loan by the deadline stipulated in the contract. As a result, the bank doesn't approve the loan in time. Even though she still wants the property, the seller may choose to terminate the contract because of the delay, and Sofia risks losing her "earnest money".

Differences between the USA and Brazil

How the earnest money process compares between the two countries

  1. Concept and Terminology: In the US, especially in Florida, the term "earnest money" is widely used to describe the good faith deposit made by the buyer to demonstrate their serious commitment to the purchase. In Brazil, although there is no direct translation for "earnest money", the closest concept is "sinal" or "arras", which is an amount given as a guarantee of the performance of the contract.
  2. Deposit amount: In Florida, the amount of earnest money can vary, but is often around 1% to 3% of the purchase price. In Brazil, the amount of the "down payment" can vary according to the agreement between the parties, but it is also common for it to be a percentage of the total value of the property.
  3. Consequences of withdrawal: In Florida, if a buyer withdraws from the purchase without a valid reason stipulated in the contract, he usually loses the earnest money. In Brazil, if the buyer withdraws, he can lose the "down payment". If it's the seller who backs out, he may have to return the down payment to the buyer in double, depending on what was agreed.
  4. Contractual Instrument: In the US, the "earnest money" is usually mentioned in the purchase agreement. In Brazil, the "down payment" is often associated with a "Contrato de Promessa de Compra e Venda", which details the terms of the agreement between buyer and seller.

Points of attention for Brazilians buying in Florida

  1. Local Knowledge: It is crucial that Brazilians familiarize themselves with the nuances of the Florida real estate market, the best way is to hiring a real estate agent who can guide them through the process.
  2. Contractual clauses: Contracts in the USA can differ from Brazilian contracts in terms of language and clauses. It is therefore vital that Brazilian buyers read and understand the contract thoroughly, ideally with the assistance of a local real estate lawyer. A very important point regarding contracts in the United States is that although the clauses are often similar to those found in Brazil, we should not assume that they work in the same way.
  3. Additional Fees: In addition to earnest money, buyers should be aware of other fees that may apply in Florida, such as appraisal fees, inspection fees and closing costs.

Tips for buyers

How to negotiate earnest money

  1. Market research: Before defining the amount of earnest money, do some research on typical values in the specific area of Florida you are interested in. This will give you a solid basis for negotiation.
  2. Flexibility: Remember that "earnest money" is a demonstration of your commitment to the purchase. If you are in a competitive market situation, offering a higher amount can make your offer more attractive. However, in less competitive markets, there may be room to negotiate a lower amount.
  3. Context of the Offer: If your offer has other attractive aspects for the seller, such as a quick closing date or the absence of contingencies, you may have more room to negotiate the amount of earnest money.

The importance of reading and understanding all the clauses in the contract

  1. Protection of Interests: Each clause in the contract serves to protect the interests of both parties. Not understanding a clause can put you, the buyer, at risk of losing your "earnest money" or facing other unwanted consequences.
  2. Seek clarification: If there's something you don't understand in the contract, don't hesitate to ask your real estate agent for clarification. They are there to help and guide you throughout the process.
  3. Reviews: Always review the contract several times and, if possible, ask a friend or family member to do the same. An outside perspective can identify issues or concerns that you may have missed.

When to consult a real estate lawyer

  1. Complex Transactions: If you are dealing with a particularly complex transaction, such as the purchase of commercial properties or properties with title issues, it is advisable to consult a real estate lawyer.
  2. Discomfort with the contract: If you feel any discomfort or uncertainty about the clauses of the contract, or if there are terms you don't understand, it's time to seek legal advice.
  3. Difficult negotiations: If you are in a difficult negotiation situation where the parties cannot reach an agreement, a lawyer can help mediate and find solutions.

Additional protection: Even if everything seems to be going well, consulting a real estate lawyer can offer an additional layer of protection and peace of mind, ensuring that your interests are being properly protected.

Q&A - Evaluation vs Inspection

How the brokers' association suggests disputes should be handled

  1. Dispute ResolutionBefore initiating any legal action to dispute a security deposit, brokers are encouraged to mediate the dispute or submit it to arbitration, as stipulated by the local association of REALTORS®.
  2. Mediation ProcedureMediation is a voluntary process where a neutral mediator helps the parties reach a mutually acceptable agreement. The aim is to resolve the dispute quickly and amicably.
  3. Arbitration ProcedureIf mediation fails or if the parties choose not to mediate, arbitration can be used to resolve the dispute. In arbitration, an arbitrator or panel hears both sides and makes a decision. Depending on the nature of the arbitration, the decision can be binding or non-binding.
  4. NotificationWhen a dispute arises over a security deposit, the brokers involved must notify all parties of the dispute process and the options available to resolve the dispute, including mediation and arbitration.
  5. Brokers' obligationsBrokers must not refuse to participate in mediation or arbitration. They also have a duty to ensure that their clients are aware of the dispute procedures and any decision taken as a result of these procedures.
  6. Guarantee Deposit FundIf a dispute arises over a security deposit that is being held in a broker's escrow account, the broker cannot use that money until the dispute is resolved or a court orders the release of the funds.

It is vital that Florida brokers are aware of these procedures and follow them to the letter. Failure to do so could result in sanctions from the association and could jeopardize the broker's position in future legal disputes.

I recommend that realtors always consult the updated Code of Ethics and the guidelines provided by Florida Realtors and the NAR to ensure compliance and protect their clients' interests.

  1. What do Florida Realtors and the National Association of Realtors (NAR) recommend before taking legal action to dispute a security deposit?
  • Both organizations encourage brokers to mediate the dispute or submit it to arbitration before taking legal action.
  1. What is the mediation process as recommended by Florida Realtors?
  • Mediation is a voluntary process in which a neutral mediator helps the parties reach a mutually acceptable agreement, with the aim of resolving the dispute quickly and amicably.
  1. What if mediation fails?
  • If mediation fails or if the parties choose not to mediate, arbitration can be used. In this process, an arbitrator or panel listens to both sides and makes a decision, which can be binding or non-binding.
  1. Is the broker obliged to notify the parties involved when a dispute arises?
  • Yes, brokers must inform all parties about the dispute process and the options available, including mediation and arbitration.
  1. Can a broker refuse to participate in mediation or arbitration?
  • No, brokers are obliged to participate and also have a duty to ensure that their clients are aware of the resulting procedures and decisions.
  1. What happens if a dispute arises over a security deposit held in the broker's account?
  • The broker cannot use this money until the dispute is resolved or a court orders the release of the funds.
  1. What can happen if Florida brokers don't follow these procedures?
  • They could face sanctions from the association and their position in future legal disputes could be jeopardized.
  1. Where can brokers find up-to-date information on the Code of Ethics and guidelines?
  • They should consult the updated Code of Ethics and the guidelines provided by Florida Realtors and the NAR to ensure compliance.

Summary

Any doubts?

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