Things to Know About Earnest Money Deposits on Bank-Owned Homes

Some deposits can be non-refundable

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When you make an offer on a bank-owned or real estate owned (REO) property, you might want to make an earnest money deposit (EMD) just as you would with any other real estate purchase. It's not always required with REOs, but it shows good faith and indicates that you really do want the property as it would with other transactions.

But the rules for EMDs can be a little different when it comes to REOs. To make matters even more complicated, there's little conformity among REO lenders as to how each sale is processed. Buying a home at auction on the courthouse steps is not an REO. These rules are different, too. REOs are foreclosures made directly between the lender and a buyer.

How Earnest Money Deposits Are Handled on a Regular Sale

Most regular real estate transactions are handled the same. A buyer makes the earnest money deposit payable to escrow, title, or to the real estate brokerage. It's typically refundable to the buyer within the inspection period.

The earnest money deposit is not normally or automatically returned to the buyer until cancellation instructions are signed by both parties. Sometimes disputes arise, and that can delay reimbursement.

Banks don't want to get halfway through the escrow period only to discover that a buyer wasn't serious about buying the foreclosure. Banks want to limit the fall-out/cancellation rate and they'll typically make some demands in the negotiation stages of the contract. You can do a few things to streamline the process nonetheless.

Make the EMD Payable to Title or Escrow

The brokerage must wait for the funds to clear before issuing a check to the title company if you make your EMD payable to a brokerage. That check is deposited into the brokerage's trust account and the bank might not wait for clearance.

The bank will most likely insist that the check be sent directly to the title company, so save yourself the grief and make it out to "title or escrow company," the name of which can be filled in later. This will prevent the brokerage from depositing the check.

The Funds Must Be in Your Account

It can be disastrous if your earnest money check bounces. The bank might well cancel the deal. You might have to make other concessions to keep it alive, such as waiving some or all your contract contingencies.

If you had a good deal to begin with, this could skew it. You'll most likely have to have the money wired as immediately as possible, allowing for weekends and holidays, to save the situation.

Replace the Deposit with a Cashier's Check Upon Acceptance

Some banks will demand that the buyer replace the original earnest money check with a cashier's check when an offer is accepted. You might be unable to obtain a cashier's check immediately if your bank accounts are held at out-of-state institutions.

Overnight the EMD If Necessary

Find out where the closest overnight carrier is located. Escrow companies will sometimes let you use their account to send funds, so ask about this, but make sure the funds are sent overnight for next-day delivery.

Get a receipt for tracking purposes in case the check doesn't show up on time.

Consider Wiring the Funds Directly

This is preferable in many cases, but be careful with wiring instructions. Call the title or escrow company to verify that the instructions are valid. Some crooks hijack escrows, send out their own wiring instructions, and they'll take off with your money.

Line Up Your Financing

It's generally a good idea to begin the loan qualifying process as early as possible. Try to get pre-approved before you make an offer and write that EMD check. It's likely that you'll lose your deposit if turns out that you can't get the financing you expect. At the very least, you might have to pay a per diem penalty until such time as you do get approved.

Sell Your Home First

REO lenders do not want to hear that you first have to sell your home before you can close on a new one. This is a contingency they most likely will not entertain.

Don't attempt to leave this bit of information out of negotiations, either. When the seller finds out, the deal will almost certainly fall through and you'll lose your EMD.

Negotiate a Deposit Below the Maximum for Small Claims Court

It's generally easier and faster to take your case to Small Claims Court if the worst happens and you end up in court. But these courts almost always impose limits on the amount for which you sue. You won't receive the entire balance of your EMD even if you win your lawsuit if the deposit exceeds the maximum amount set by the court—unless you file suit in a different court.

Time Your Negotiations

Some banks will want to make your earnest money deposit non-refundable, so you might want to schedule your home inspections upon verbal acceptance of your offer. You might have less than 24 hours to conduct these inspections, so line up your inspectors ahead of time and be ready to act the minute your agent tells you the offer will be accepted.

You'll have your inspections completed before you deliver that earnest money deposit, and this can save you a lot of grief and worry if you know that you definitely want to proceed with the transaction.

Work With Your Agent

The assistance of an experience real estate agent can be invaluable in REO situations. An agent might even have experience with the particular lender you're dealing with, so she'll already be familiar with that lender's quirks and requirements. In any case, an agent can help guide you through the process so you don't make any costly mistakes.

At the time of writing, Elizabeth Weintraub, CalBRE #00697006, is a Broker-Associate at Lyon Real Estate in Sacramento, California.