Due Diligence and Earnest Money Explained
When a real estate contract is entered in North Carolina, the buyer submits two checks: one for due diligence and one for earnest money. Let’s discuss what these are.
North Carolina implemented a due diligence contract in January 2011. The basic principle of due diligence is that a buyer can walk away from the contract for any reason or no reason at all during the due diligence period. The due diligence period is a negotiable timeframe agreed upon by the buyers and sellers at the time of contract.
Due diligence money
The due diligence timeframe is associated with due diligence money, which the buyer gives to the seller when the contract is executed. If the buyer exercises their right to walk away during the due diligence period, the due diligence money stays with the seller. If the sale is completed, the due diligence money is applied toward the purchase price of the property.
In 2011, when the market was still trying to recover from the 2008 economic crash, sellers were lucky to get an offer and didn’t usually require due diligence money, but if a seller required it, it was usually a token amount. In my experience, $200-$250 was a generous amount. After all, it was a buyers’ market.
Today, we are in a sellers’ market where inventory is at a historic low and market demographics are changing dramatically. Hence, the due diligence figure is considerably higher than it was when we were in a buyers’ market. I’m seeing due diligence figures of $5k, $10k, $15k, and even $20k. To risk that kind of money, a buyer is indicating that he plans to close that property and that assurance is very compelling to the seller.
The second check that is submitted at the time of entering contract is earnest money. This figure is also a negotiable amount agreed upon by buyers and sellers. It is held in the safekeeping of an escrow account, usually an attorney’s trust account. If buyers opt to move to closing, this money is credited to them at closing. Should the buyers opt to not go through to closing, and if the buyer terminates prior to 5 pm on the day of due diligence expiration, the earnest money is released back to the buyer. If the buyers terminate the contract after the due diligence period, the earnest money is forfeited to the seller.
Understanding the difference between due diligence and earnest money and recognizing the purpose of each will help both the buyer and seller recognize an attractive contract.