In most real estate purchase contracts, the buyer makes an up-front earnest money deposit. If the transaction proceeds and closes successfully, the deposit gets applied to the buyer's purchase price. If the buyer cancels the transaction for an allowed reason, he usually gets his deposit back, but if he defaults, he could lose it -- but retaining a buyer's deposit is usually much harder than it seems.
In most cases, the seller of a home can't keep the deposit if the buyer does not close escrow on schedule.
Deposits Held in Escrow
When the deposit is held in escrow, it technically belongs to neither the buyer nor the seller: It's both of theirs at the same time. This means that, for the seller to actually get the money when a buyer breaches a contract, she usually needs to have the buyer sign an agreement to release it. Since a buyer will probably not be willing to do this, the seller will either have to sue and hope she prevails in court, or work something out with the buyer. Given the relatively small size of most residential deposits relative to the cost of going to court, most situations come down to negotiating.
Deposit or Damages
Many contracts say that once a buyer removes his contingencies, his deposit becomes "nonrefundable" and can be retained by the seller if he defaults by not being at the closing table on time. However, some state laws don't allow deposits to be nonrefundable. One way of sidestepping this issue is to designate the deposit as liquidated damages, which is a legal term that turns the deposit into a payment to the seller for the losses that she suffers when the buyer doesn't perform. However, even a liquidated damages argument might not stand up in a court of law.
The Problem with Retaining
If the case is cut and dry, and the seller has a legal right to retain the deposit, retaining the deposit still might not be a good idea if the buyer is late for closing. Keeping the buyer's deposit usually cancels the contract. While this may be worth doing if the buyer is never going to close, cancelling the contract because the buyer needs some extra time may not be wise. It could take longer to find another buyer or, if the same buyer returns, he may offer a lower price for the home.
Avoiding Late Closing Issues
The best way to avoid problems with the deposit is to stay ahead of late closings before they happen. If both agents stay in communication with one another, and with the lender, they can get a sense of any impending delays. At that point, the two parties can negotiate an adjustment to the contract timelines so the buyer does not end up defaulting and the seller has some certainty as to the closing date.
Steve Lander has been a writer since 1996, with experience in the fields of financial services, real estate and technology. His work has appeared in trade publications such as the "Minnesota Real Estate Journal" and "Minnesota Multi-Housing Association Advocate." Lander holds a Bachelor of Arts in political science from Columbia University.