Legal Definitions - earnest payment

An earnest payment is a sum of money a buyer provides to a seller, typically held by a neutral third party (like an escrow agent), after signing a purchase agreement. This payment demonstrates the buyer's serious intent to complete the transaction. It acts as a form of security, assuring the seller that the buyer is committed to fulfilling the terms and conditions outlined in the contract.

If the buyer meets all contractual obligations, the earnest payment is usually applied towards the purchase price. However, if the buyer fails to meet a condition specified in the contract (such as securing financing or a satisfactory inspection), they can typically recover their earnest payment. Conversely, if the buyer backs out of the agreement for a reason not permitted by the contract, they generally forfeit the earnest payment to the seller.

• Example 1: Refund Due to Unmet Contingency

  A young couple, Sarah and Tom, sign a contract to buy their first home and deposit $4,000 as an earnest payment. Their purchase agreement includes a standard contingency clause stating that the sale is dependent on a satisfactory home inspection. During the inspection, significant mold damage is discovered in the attic, which the seller refuses to remediate. Because the contract allowed for termination based on an unsatisfactory inspection, Sarah and Tom are able to withdraw from the purchase and receive their $4,000 earnest payment back.

  This example illustrates how an earnest payment protects the buyer when a specific condition outlined in the contract is not met, allowing them to recover their funds.

• Example 2: Forfeiture Due to Buyer's Change of Mind

  Mark signs a contract to purchase a lakeside cabin and places a $7,500 earnest payment into an escrow account. The contract includes standard contingencies for financing approval and a clear title. Both of these conditions are successfully met. However, a week before closing, Mark decides he prefers a different cabin he saw online and informs the seller he no longer wishes to proceed with the purchase, despite having no contractual reason to withdraw.

  In this scenario, Mark is backing out for a personal reason not covered by any contingency in the purchase agreement. As a result, he would likely forfeit the $7,500 earnest payment to the seller, demonstrating how the payment compensates the seller for the time and opportunity lost when a buyer defaults without contractual justification.

• Example 3: Forfeiture in a Commercial Transaction

  A small tech startup, "Innovate Solutions," agrees to purchase an office building for $1.5 million and puts down a $25,000 earnest payment. The purchase agreement includes a due diligence period for reviewing the building's structural integrity and existing leases. Innovate Solutions completes their due diligence and finds no issues. However, shortly after the due diligence period expires, the company secures a large investment that allows them to lease a much larger, more prestigious space in a different part of the city. They decide to cancel the purchase of the original office building.

  Since Innovate Solutions is withdrawing for a strategic business reason that is not a permitted contingency within the signed contract, and all contractual conditions were met, the $25,000 earnest payment would typically be forfeited to the seller. This highlights the earnest payment's role in ensuring commitment even in larger commercial deals.