Down payment and deposit are terms that come up often when you are buying or selling a home. The terms are easy to mix up, so here is an explanation of the difference between deposit and down payment.
In a nutshell;
- the home buyer pays the deposit to the home seller as good faith money. This deposit goes toward your down payment when you close on the purchase.
- The down payment is the money your lender wants you to invest out of your own savings in the purchase of your home.
What is a down payment when buying a house
A down payment is the money your lender requires you to put down, into the mortgage, out of your own savings. It is more or less a security for the lender. Once your own savings are invested, you probably will not want to walk away. Also, it shows the lender you have the ability to handle money. This is important to the lender since they easily lend you hundreds of thousands of dollars.
The mortgage rules constantly change. But usually the minimum of the required down payment is 5%. However, if the lender sees you as a higher risk because, for example, you are a new immigrant, a lender may ask you to put down a higher percentage.
In numbers; if you buy a house for $400,000, and the lender requires a 5% down payment, you have to come up with $20,000. If you don’t have that much money, you simply can’t borrow (that much).
What is a deposit when buying a house
The deposit is basically ‘good faith’ money paid towards the sellers
If the buyer doesn’t waive a condition, the buyer gets the deposit back. A simple example is when the buyer didn’t get the financing from the lender. Or when something unacceptable came out of the home inspection. If you, as the buyer, don’t waive the condition, you get your deposit back.
If the buyer is satisfied with all the conditions, the seller will receive a ‘waiver of conditions’. This means it is a firm sale. Now the buyer waits until the day of possession. However, the deposit stays in that same trust account and will then become part of your down payment.
Initial deposit vs additional deposit
The buyer loses the deposit after the conditions are waived, but before possession
The initial deposit is paid by the buyer to the seller and comes with the offer. The additional deposit is given after the conditions are waived. When the conditions are waived, the property is firmly sold to the buyer. After the waiving of the conditions, the buyer waits for possession day to come. In Calgary, that wait is usually anywhere between a few weeks and 3 months. During that time, the initial deposit and the additional deposit stay in the trust account of (usually) the seller’s brokerage. Both deposits will go toward the down payment or the mortgage. An additional deposit gives the sellers an extra security that the buyer doesn’t ‘walk away’ before possession day.
When do you lose the deposit?
The buyer loses the deposit after the conditions are waived, but before possession. When the buyer waives all the conditions and has sent a ‘waiver of conditions’ to the seller, the sale is firm. The buyer has officially bought the home and now must wait until the day of possession. On possession day, the seller moves out, and the buyer gets the keys to the property. If a buyer decides to ‘walk away’ from the property at this time, the buyer loses the deposit. In Calgary, this deposit then will be split 50/50. Half of the deposit goes to the seller, and the other half goes to the Realtor. In addition, the seller can sue the buyer for damages the seller will incur.
The small print in the contract about deposits
There is an important section in the purchase contract which we use in Calgary. Here follows section 4 of the purchase contract: Deposits.
4.1 The seller and buyer agree that clauses 4.2 through 4.8 are the terms of trust for the deposits.
4.2 The seller and buyer appoint (name but usually the seller’s brokerage) as trustee for the deposit money.
4.3 The buyer will pay a deposit of $ (amount), which will form part of the Purchase Price, to the trustee by (method), on or before (date).
4.4 The buyer will pay an additional deposit of $ (amount), which will form part of the Purchase Price, to the trustee by (method), on or before (date)
4.5 If the buyer fails to pay a deposit by the agreed date, the seller may void this contract at the seller’s option by giving the buyer written notice. The seller’s option expires when the seller accepts a deposit, even if late.
4.6 The trustee will deposit all deposits into a trust account within three Business Days of receipt.
4.7 Interest on the deposits will not be paid to the seller or buyer.
4.8 The deposits will be held in trust for both the seller and buyer. Provided funds are confirmed, the deposits will be disbursed, without prior notice, as follows:
(a) to the buyer, if after this contract is accepted:
(i) a condition is not satisfied or waived in accordance with clause 8.4;
(ii) the buyer voids this contract for the seller’s failure to provide a Dower Consent and Acknowledgment form in accordance with clause 7.1(b);
(iii) the seller voids this contract for the buyer’s failure to pay a deposit; or
(iv) the seller fails to perform this contract;
(b) to the seller, if this contract is accepted and all conditions are satisfied or waived and the buyer fails to perform this contract;
4.9 The disbursement of deposits, as agreed to in this section, will not prevent the seller or buyer from pursuing remedies in section 12.
The small print about the deposits explained
4.3 indicates that the deposit goes toward the purchase price. It can become part of the down payment.
4.4 is filled out when buyer and seller agree on paying the additional deposit, which is after the waiving of the conditions, when the property is firmly sold.
4.8 is very important because it explains when the buyer gets the deposit back, or when the deposit goes to the seller.
4.9 basically means that buyer and seller can sue each other for damages incurred when the closing does not take place.
It is understandable that the terms deposit and down payment are often confusing, especially for first time home buyers. Buying a home involves a lot of terminology you don’t hear every day. It is really advisable for every buyer and seller to ask his/her realtor all the important questions.
Disclaimer: This information is general information, and is not meant to be legal advice. Please contact your lawyer for definite advice on this or any subject.