Key Real Estate Terms Explained: Earnest Money, Contingencies, Tax-Deductible Closing Costs, and More

When buying a home, understanding key terms can help make the process smoother. Here’s a quick guide to common concepts like earnest money, contingencies, and tax-deductible closing costs.

What is Earnest Money?

Earnest money is a cash deposit made by the buyer when signing a contract to purchase a home. It shows the buyer’s good faith and commitment to completing the sale. The earnest money is typically applied toward the down payment at closing. However, if the buyer backs out of the contract without a valid reason (as outlined in the agreement), the earnest money may be forfeited to compensate the seller and their agents for any damages.

What is a Contingency?

A contingency is a condition or requirement that must be met for the sale to proceed. Contingencies are placed in the contract to protect either the buyer or seller from specific risks or events. Common contingencies include:

  • Financing Contingency: The sale is dependent on the buyer securing a mortgage.

  • Home Sale Contingency: The buyer needs to sell their current home before purchasing the new one.

  • Home Inspection Contingency: The sale is subject to the results of a satisfactory home inspection.

  • Repair Contingency: The seller agrees to make specific repairs before the sale is finalized.

Contingencies can be removed through an addendum or automatically expire after the time frame stated in the contract.

Tax-Deductible Closing Costs

Certain closing costs may be tax-deductible, offering a financial benefit to homebuyers. These typically include:

  • Loan fees or points, even if the seller pays them.

  • Pro-rated mortgage interest.

  • Property taxes.

Be sure to consult with a tax professional for a full understanding of which closing costs are deductible based on your specific situation.

When Do I Find Out the Full Costs?

Once all contingencies have been removed, the title company will provide a good faith estimate that outlines the total costs associated with closing the transaction. This will give you a clear picture of the final amount you’ll need to cover at closing.