Understanding the process of paying earnest money in Colorado can spell the difference between closing and losing a deal.
Even as the $20 trillion commercial real estate (CRE) market in the United States takes a hit, the demand for office spaces in Colorado—home to two of the top life sciences clusters in the country—is strong, which means that commercial real estate developers, interested property buyers, owners, and investors all need to familiarize themselves with the process of how earnest money in Colorado works, as well as how, why, and when it needs to be paid.
Earnest money, also known as a “soft deposit” or a “good faith deposit,” is required for most Colorado property sales to push through—it shows the seller that the buyer is serious, it covers some of the costs associated with purchasing the property, and in certain cases, it can be refunded to the buyer if the sale does not push through.
After decades of growth owing to low interest rates and easily accessible credit, the commercial real estate industry in the US has recently hit some roadblocks. The pandemic ushered in lower tenancy rates, the Fed hike on interest rates has made securing credit more difficult, and the stress on small and mid-sized banks—backers of 80% of CRE property developers and managers—has put a strain on bank loan approvals.
CNN recently reported that “short-sellers have stepped up their bets against commercial landlords, indicating that they think the market will continue to fall as regional banks limit access to credit,” adding that according to S&P Global, “real estate is the most shorted industry globally and the third most in the United States.”
Yet, despite the grimmer lookout for the CRE market in the US, the demand for office spaces remains healthy in the “Sun Belt” states (like Texas), best-in-class property markets (such as Manhattan and Los Angeles), and life science research and talent clusters, where work-from-home and hybrid models take a backseat since the industry necessitates in-office and lab work.
The US Real Estate Market Outlook 2023 report by global real estate services and investment firm CBRE identified the top 25 life sciences clusters in the US—the top three spots are held by Boston and Cambridge (Massachusetts); Washington, D.C. and Baltimore (Mayland); and the San Francisco Bay Area (California).
According to the report, the Denver and Boulder areas in Colorado are in 11th place (up from 13th place in 2020) as some of the country’s top life sciences research and talent clusters, bringing in a high demand for offices and R&D lab spaces.
Though the US life sciences market is expected to cool to normal levels in 2023, experts are optimistic that the sector will continue to be resilient. This is bolstered by the $2 billion investment the Biden administration poured into the US biotech and biomanufacturing industries and by higher proposed funding from the National Institutes of Health.
As a life sciences hub, the CRE market in Colorado is expected to remain strong and should continue to attract interest. On all sides of a real estate sale, commercial property developers, owners, realtors, real estate brokers, and buyers alike need to have a keen understanding of the finer details of the entire commercial real estate and home buying process—and earnest money deposits, down payments, option fees, and other legal fees are important parts of the process.
Looking to understand the ins and outs of earnest money in Colorado? Let us walk you through how earnest money is paid by addressing common concerns on earnest money calculations, protection, and refunds.
In this comprehensive guide, we’ll cover:
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Earnest money, also known as a soft deposit or good faith deposit, is money that buyers put down on a property before the closing date to show sellers they are serious about the sale. Similar to getting pre-approved on a mortgage, paying earnest money in Colorado shows that a buyer is serious and very likely to push through with the sale.
In the event that the buyer fails to complete the purchase and the deal falls through, the seller can keep the earnest money as compensation for their time and effort, or earnest money may also be refunded to the buyer, depending on contingencies agreed by both parties in the purchase contract. On the other hand, if the sale is successfully completed, the earnest money is put toward the purchase price or utilized to cover the closing costs.
The purpose of earnest money is to demonstrate the buyer's commitment to purchasing the property and to give the seller assurance that the buyer is serious about the transaction. Essentially, earnest money helps to establish trust between and protect both parties involved in a real estate transaction.
The earnest money is held in an escrow account—a legal arrangement in which a third party temporarily holds property or money until particular conditions have been met—until the transaction is completed, at which point it’s either applied to the buyer's closing costs or refunded if the buyer backs out of the transaction for reasons outlined in the purchase agreement.
You may have heard the terms “escrow account” and “trust account” used interchangeably in the past. In essence, their function is similar, but their purposes are different.
In an escrow account, the funds are deposited into a bank account managed by an escrow agent during the real estate buying process, where they are held until the contract terms of the sale have been agreed upon and finalized. The funds will then be paid to the seller of the property.
In a trust account, trust funds are held by a trustee and are payable to the beneficiary when certain conditions are met, such as a marriage or a death. A trust account can also hold funds payable for future services, such as for a lawyer held on retainer.
It can be easy to confuse earnest money with down payments and option fees, which also have to be paid in the process of purchasing a new home or commercial real estate space in Colorado, but the three payments serve very different purposes.
Option fees, also known as inspection fees, is a non-refundable payment that can be applied to the final sale price of the property after closing. This payment (around $300-$700 in Colorado) grants you an option period, typically lasting between seven to 10 days, during which you can access the property and conduct building and home inspections. Paying the option fee gives potential buyers the right to terminate the contract before the option period concludes.
Both the option fees and earnest money in Colorado must be paid to the escrow agent or title company.
Meanwhile, a down payment is a portion of a property’s purchase price, which the lender demands from the borrower only in a mortgage transaction, and not when the buyer is paying in cash. A down payment assures the lender that the borrower will be able to make the regular mortgage payments, helps the lender to reduce risk, and affords the borrower more favorable loan terms.
Though not mandated by law, earnest money is considered a requirement in closing a home purchase or a valid real estate contract in Colorado, and most real estate attorneys, real estate agents, and loan officers will advise buyers to show their serious interest by paying earnest money.
The amount of earnest money to be paid is generally calculated as a percentage of the purchase price and can vary depending on the real estate market and other factors.
How much would that look like on a home purchase, for example? While median home prices in Colorado can vary greatly from county to county, the Colorado Association of Realtors (CAR) listed the statewide median as $520,000 for a home as of February 2023. At 1% of the list price, the earnest money on such a home would be $5,200, and at 5%, it would amount to $26,000.
While you can speak to a loan officer about the option of paying as low as $1,000 in earnest money, it’s important to remember that putting down less than the expected amount of earnest money in Colorado may send the wrong message that the buyer is not serious or perhaps does not have the finances to close the deal.
Earnest money should be paid after both buyer and seller have signed the purchase agreement, which will specify the exact amount of earnest money required and the deadline for the payment. Typically, earnest money is paid within a few days of the contract being signed; earnest money in Colorado must be paid within two to four days of the contract’s effective date.
When calculating the earnest money due date, it’s important to remember that 1) weekends and holidays are included in the official day count and 2) the deadline is extended to the next business day when the earnest money due date falls on a legal holiday or weekend.
Earnest money in Colorado is paid to the title company or escrow agent, the reliable third party entrusted with safeguarding documents and funds necessary to the transaction until the transaction is successfully completed.
Besides knowing how much earnest money in Colorado is, it’s important to be aware of the different payment methods available to commercial real estate buyers and developers. While some states still accept cash payments, Colorado prefers other methods.
Below are the payment methods accepted for earnest money in Colorado:
While you will most likely be working with a real estate broker who will handle all the forms and guide you through the process, it is still important to be aware that all forms used in the real estate transaction must be official forms from the Colorado Real Estate Commission, such as this earnest money receipt form and earnest money release form in Colorado
Yes, earnest money in Colorado can be refunded.
If a sale does not go through for any reason, the earnest money may either be kept by the seller or refunded to the buyer, depending on the contract’s stipulations. As a general rule, the buyer gets the earnest money back if the seller reneges on the contract, and the seller keeps the earnest money if the buyer defaults.
There are other scenarios that can halt the sale process and cause disputes over earnest money in Colorado. Working with experienced real estate attorneys is vital to ensuring that the process goes smoothly and everyone is covered. Handling disputes is also much easier with real estate lawyers as they will take over all the formalities and legalities involved.
There are several ways that prospective buyers can protect their earnest money deposits:
Again, working with a good real estate lawyer can take the headaches and confusion out of the entire commercial real estate buying process and ensure that everything is secure and legal. Interested commercial real estate developers and investors can contact the Colorado Real Estate Commission for further guidance.
While developers and investors are keen to invest in one of the top life sciences clusters in the US, they might find the process to be a difficult and stressful one.
However, being as informed as possible, particularly on how earnest money in Colorado is paid, will put them in a good position for a successful commercial real estate purchase in the Centennial State.
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