What is earnest money generally based on?

Earnest money is typically based on a percentage of the purchase price of the property. This amount serves as a good faith deposit from the buyer to show their commitment to completing the transaction. The percentage can vary depending on market conditions, local customs, and the terms negotiated between the buyer and seller, but it usually ranges from 1% to 3% of the purchase price.

This practice establishes a level of seriousness in negotiations and provides sellers with a measure of financial security, as earnest money can be forfeited if the buyer backs out of the deal without a valid reason or contingency. It signals to the seller that the buyer is earnest in their intention to follow through with the purchase.

While a flat fee or arbitrary percentages may seem reasonable in theory, they lack the alignment with the property's market value and do not reflect the buyer's commitment proportionate to the transaction size. Similarly, basing earnest money on the average cost of similar properties does not directly correlate with the specific property's value or the unique circumstances of the deal. Hence, using a percentage of the purchase price is the most common and accepted practice in real estate transactions.