For nominal consideration (also known as the “Option Fee” which is an amount of money agreed upon in the contract between Buyer and Seller), the Seller grants the Buyer the unrestricted right to terminate the contract by giving notice of termination to Seller within a pre-determined number of days after the effective date of the contract (one of the terms negotiated before execution). In other words, you as the Buyer have the option to terminate the contract during the Option Period for any reason whatsoever. This privilege and right may only be exercised if the Option Fee is delivered to the Seller within a certain amount of time (3 days in Texas). If you give notice of termination during the Option Period, the Option Fee will not be refunded to you but will rather belong to the Seller. If you complete the purchase of the home, the Option Fee is typically refunded to you unless it was negotiated differently.
What is Earnest Money?
The Buyer must also deposit Earnest Money with the Title Company or Fee Attorney that was agreed upon between parties.
The best way to understand Earnest Money is to break it down:
- Earnest — The dictionary defines it as being serious, sincere, or one’s earnest attempt about something;
- Money — Pretty obvious;
- Deposit — A partial payment made for a purchase, with the remainder due later.
So, the Earnest Money is paid toward the purchase of a home, to show the Seller you are serious about buying the property.
How Much Earnest Money Should Be Paid?
The amount can vary from one housing market to the next based on several factors: the activity level within the local market, the price range of the property in question, and ultimately what’s agreed upon between parties.
While 1% – 2% of the purchase price is a good rule of thumb, in a slower market where sale properties are sitting idle with very few offers one might get by with a smaller earnest money deposit. In the luxury market, and/or one with a lot of competition from other Buyers, one might have to pay 2% – 3% of the sales price.
Your Realtor will be able to tell you what is acceptable. Follow their counsel to avoid losing the home to a stronger Buyer or offer. If you attempt to make a deposit that is well below average for your area (and below what the homeowner may expect), they might not take you seriously.
The Earnest Money deposit goes toward the purchase of the home, so it is credited back to the Buyer at closing. However, it is forfeited if the Buyer terminates the contract after the Option Period and a few other allowances that will be discussed in our next blog. A Seller’s worst fear is to have a Buyer terminate at the last moment and starting all over again. The forfeited deposit compensates the Seller for the inconvenience of this setback.
What takes place during the Option Period?
This is the time for you, the Buyer, to do your due diligence which includes having inspections done in order to determine what needs to be presented to the Seller for repairs. To reduce the amount of stress for all parties, get inspections ordered early in the Option Period. Your Realtor will provide you options for Inspectors, and you may have your own preferences as well. While a general Home Inspector will look at every component inside and outside the home, it would be in your best interest to have certain elements inspected by strategic professionals for more in-depth discoveries such as the swimming pool and equipment, the roof, the HVAC (heating, ventilation, and air conditioning), the foundation, and pests such as wood-destroying insects.
Presenting Repair Requests to the Seller
Once inspections are complete, you and your Realtor will compile a list of repair requests to deliver to the Listing Agent and/or Seller. The Seller may choose to agree to all, some, or none of the repairs. They may also offer the Buyer money in lieu of repairs that will be credited to the Buyer at closing in order for the Buyer to make repairs after taking possession of the property with the contractor(s) of their choice. This is all negotiated during the Option Period between the Seller, Buyer, and Realtors. Repairs are most often completed after the Option Period and before closing. Ensure your Realtor gives the Seller a deadline for repairs as well as requests receipts upon completion, as most contracts require that professional, licensed contractors complete the repairs rather than the Sellers. A final walk-through before closing is advised to ensure everything has been completed as agreed upon.