After you make an offer on a house and it’s accepted by the seller, you’ll be asked to put down an earnest money deposit to show your commitment to this purchase. This is a check that you write that is separate from the deposit. But while you might be gung-ho to move ahead, the deal could still fall through if you can’t get a mortgage.
Which begs the question: If financing fails to happen, do you get that earnest money back?
In most cases, yes—that is, if you take a few precautions. Here’s more on how to protect your earnest money during the home loan process.
The Mortgage pre-approval process
It’s best to find out if you can get a loan—and how much—before you start house hunting. That alone could help you protect your earnest money.
Here’s how it works: You approach a lender and explain that you’re ready to go house hunting. The lender asks you for details about your finances—usually copies of your pay stubs, tax returns, and the like.
The lender then comes up with an amount it’s willing to lend you to buy a house. This process is known as a mortgage pre-approval.
Getting pre-approved for a loan will help you when it comes to choosing a home that’s within your price range. That way, you won’t put down earnest money on a house only to find out the bank isn’t willing to lend you enough to buy the place.
Understand the financing contingency
Another way to protect your earnest money is to include a financing contingency in your real estate contract. Basically this means that the purchase of this property depends on your getting a loan first. If a loan can’t be secured, then you won’t buy the house—and can take back your earnest money.
A real estate attorney can help draw up a contract with contingencies that protect you and your earnest money, says Scott Browder, broker in charge at Wilkinson ERA Real Estate in Charlotte, NC.
If there’s no contingency, you are out of luck—and the seller will get to keep that earnest money.
The lender appraisal process
The lender appraisal process is another place where things can get tricky. Your bank may have said you’re qualified to take out a loan large enough to cover the cost of the home you want to buy, but to ensure its money isn’t at risk, the bank will send an expert known as an appraiser to the home to evaluate just how much it’s worth.
If the bank’s appraiser doesn’t feel the house is worth as much as or more than the agreed-on asking price, the bank may not approve a loan that large, even though you were pre-approved.
If that happens, there are a few options: The seller can lobby for another appraisal, which will hopefully increase the amount the bank is willing to loan. A buyer can put up a heftier down payment. If either option is manageable, you’ve saved your earnest money!
If neither option is possible and you must walk away from the deal, you may still be able to hang onto that earnest money if your financing contingency states you need a loan of a certain amount to buy the house. That way, if your loan amount falls short, you can cut your losses and keep your earnest money.
How to protect your earnest money deposit
If your loan is large enough to cover the costs, you should be all set, right? Well, usually, says Browder. But even with a pre-approved loan, a buyer can still be denied financing as the closing date nears, especially if the buyer has major financial changes such as a job loss or a credit score decline.
Browder is quick to warn his clients not to make any big purchases or any drastic moves that could affect their credit score between mortgage pre-approval time and the closing of the real estate deal.
“There is one final credit check right before closing,” Browder says, “so no buying furniture or anything for that matter!”
That final credit check could cause financing to fall through late in the game. Once again, if you have a contingency in place that covers a loan falling through, you should get your earnest money back. But if the contingency isn’t there, you’ll lose that money.
