By Mike Miles
Can you borrow earnest money in a real estate transaction?
The simple answer is “yes”. However, this is the mortgage industry and nothing is that simple, right?
Earnest money is paid to confirm a contract and it’s used on nearly 100 percent of real estate purchases. The dollar amounts of earnest money can vary but on average equals about 1 percent of the home price.
Most home buyers have enough funds to be able to write this check, but what happens if they don’t?
It can be borrowed but there are some technicalities involved. Please understand that I’m not advocating for buyers to borrower funds to cover earnest money. That said, I know there are buyers – primarily first-time buyers – who may be dealing with this, and it’s better to learn the right things to do if it needs to be done.
Earnest money is ultimately counted as part of the down payment on a home purchase. For example, if a buyer is putting 5 percent down on a $200,000 home and has deposited a $2,000 earnest check, the remaining amount owed is $8,000.
5 percent down in equity: $10,000
Earnest deposited: -$2,000
Remaining owed: $8,000
Generally speaking, any funds being applied to the equity of a purchase transaction need to be sourced as coming from the buyer; i.e. not borrowed. The most common way to prove this is to have the buyer provide 60-days’ worth of bank statements from the account where the earnest money and the remaining down payment money come from. If underwriting finds deposits that aren’t regular payroll deposits on these statements, they will begin to ask questions about where the funds came from. Ultimately, they want to know if it’s borrowed, and if so, from what source and what is the associated payment if it is being repaid? You might ask why this matters. The payment associated with borrowed funds will be added to the existing debt-to-income calculations and could cause a qualifying issue.
Here are some acceptable sources of borrowing:
- Money from a secured financial asset like retirement accounts
- Money from a loan against real estate
- Money from a loan against an automobile
Here are some unacceptable sources of borrowing:
- Cash advance on a credit card
- Personal loan from a bank
- Personal loan from a friend or family member
The good news is that there are still options for buyers who need to borrow from one of these “unacceptable” sources. Underwriters require a 60-day lookback of assets used to source earnest and down payment monies. This means monies borrowed from unacceptable sources need to season in a bank account for at least 60 days. So if a parent or other relative is going to loan you the funds, those funds should be deposited into your account prior to 60 days from the underwriting process. When this happens, there is no way for underwriting to distinguish between borrowed and non-borrowed funds because the money is already in the account.
Many well-qualified buyers, especially first-time home buyers, have made arrangements with their parents to borrow a portion of their down payment or earnest monies. But then they are frustrated when this arrangement is counted against them during underwriting. That’s why is always important to meet with a mortgage provider well in advance of beginning your home search. We can assess your particular situation and give you the best advice for a hassle-free and efficient loan process. If you’d like to discuss your home ownership goals, give me or my team a call at 913-745-7000.
This weekly Sponsored Column is written by Mike Miles of Fountain Mortgage. Located in Prairie Village, Fountain Mortgage is dedicated to educating, and thus empowering, clients to make the best financial decision possible for their situation. Contact Fountain today.
Mike Miles NMLS ID: 265927; Fountain Mortgage NMLS: 1138268