What is the purpose of an earnest money deposit in a real estate transaction?

The purpose of an earnest money deposit in a real estate transaction is to demonstrate the buyer's good faith in the transaction. This deposit shows the seller that the buyer is serious about purchasing the property and is committed to completing the transaction. It acts as a financial assurance that the buyer intends to follow through with the purchase, providing the seller with a level of confidence.

If the transaction proceeds as planned, the earnest money is typically applied to the buyer's down payment or closing costs at settlement. However, if the deal falls through due to contingencies that protect the buyer, such as failing a home inspection or inability to secure financing, the earnest money may be refunded. If the buyer backs out without a valid reason, the seller may keep the earnest money as compensation for taking the property off the market.

The other options do not accurately reflect the primary role of the earnest money deposit. While securing a mortgage approval and covering closing costs are important aspects of a real estate transaction, they are not directly related to the function of earnest money. Additionally, while home inspections are a critical part of the buying process, the earnest money is not intended to cover those costs. Instead, it serves as a gesture of trust and commitment to the transaction.