What does "earnest money" refer to in a real estate transaction?

Earnest money refers to a deposit made by the buyer to demonstrate their serious intent to purchase a property. This money serves as a sign of good faith and commitment to the transaction, signaling to the seller that the buyer is earnest in their offer. It is typically held in an escrow account and applied toward the buyer's down payment or closing costs if the sale goes through. If the deal falls apart due to the buyer’s failure to perform as agreed (without a valid reason), the seller may keep the earnest money as compensation for taking the property off the market.

In practice, this deposit is crucial because it helps to build trust between the buyer and seller and provides some financial assurance to the seller that the buyer is genuinely interested in completing the transaction. The amount can vary but is often a percentage of the purchase price.