Earnest Money

Earnest money is a cash deposit made by a buyer at signing of a real estate purchase agreement, held in escrow by the title company or other escrow agent during the contract period. Earnest money serves three functions: (1) consideration supporting the contract; (2) a tangible expression of buyer's good-faith commitment; and (3) the typical liquidated-damages pool in the event of buyer default. In commercial transactions, earnest money is typically 1%-3% of the purchase price, though deals with longer due diligence periods or speculative buyers may justify higher amounts.

Refundable vs. non-refundable

The contract typically distinguishes a "refundable" period (the due diligence or feasibility period, during which buyer may terminate for any reason and receive earnest money refund) from a "non-refundable" period (after due diligence, where the deposit is at risk if buyer defaults). At closing, earnest money is applied to the purchase price. The transition from refundable to non-refundable is one of the most heavily negotiated terms in commercial real estate.

Hard money structures

In competitive markets, sellers may demand "hard money", earnest money that is non-refundable from contract signing, regardless of due diligence outcomes. Hard-money structures shift risk substantially to the buyer and are typically used to demonstrate the buyer's seriousness, deter competing bids, or compensate the seller for off-market commitment. Buyers accepting hard money should already have substantial due diligence completed before contract signing.

Liquidated damages and forfeiture

Most commercial real estate purchase agreements provide that buyer's default results in seller's retention of earnest money as liquidated damages, typically the seller's exclusive remedy. Texas courts enforce liquidated damages clauses if (1) actual damages are difficult to ascertain and (2) the amount is a reasonable forecast of damages, not a penalty. Excessive earnest money can be reclassified as an unenforceable penalty. Some agreements preserve seller's right to elect specific performance instead.

Disputes and interpleader

Disputes over earnest money release at termination are common. The escrow agent (typically the title company) is bound by the contract and the parties' joint instructions; if buyer and seller disagree, the title company will not release without (a) a fully executed release agreement, (b) a court order, or (c) interpleader filing. Interpleader litigation over earnest money is straightforward but routinely costs more than the deposit at issue, making negotiated resolutions almost always preferable.