The differences between a deposit and down payment

Canadian Money

When buying a home, the standard real estate contract will always require a deposit. The contract may then go on to provide for a further payment of cash, which, together with the proceeds of an anticipated mortgage along with the deposit, make up the purchase price. The further cash payment is called a down payment. Although the average buyer will likely be familiar with these terms, the distinctions between them are often overlooked or misunderstood. To clarify any confusion, the following offers a brief overview of what the deposit and the down payment ultimately mean for you, the homebuyer.

A deposit ensures that the buyer’s offer has been made in good faith and with the intention of ultimately closing the deal. A deposit is, in essence, something given to guaranty the buyer’s intention to close the transaction. As such, if the transaction fails to close by reason of the buyer’s default, the entire deposit is forfeited to the seller. There is no need for the seller to show that he suffered any damages whatsoever.

The amount of the deposit is not fixed, rather it is dictated by both the value of the property as well as local market conditions. Usually, the buyer has two options with respect to when the deposit is paid – either immediately upon the offer to purchase, or within twenty-four hours after the seller has accepted the offer. In a vibrant housing market however, where multiple offers are on the table, buyers tend to opt for the former at a higher than average amount to give them a competitive advantage over the other bidders.

Once the deposit money is paid it is usually held in trust by the buyer’s real estate agent, or rather their brokerage. This provides the buyer protection in the event that a seller goes bankrupt or disappears. The buyer can rest assured that the deposit will be refundable should the deal ultimately not go through for reasons other than the buyer’s default.

Also, once the agreement has been finalized, the buyer is locked in and cannot walk away from the deal. Refusal to pay the deposit will not affect this result. If anything, this strategy will likely backfire, exposing the buyer to significant cost consequences, including liability for the difference in purchase price if the seller is later forced to accept a lower offer as a result of the renunciation.

For a deposit to be released, both parties must agree. A seller can refuse to refund the deposit if he feels that the buyer has failed to act in good faith in fulfilling any term of the agreement. In the absence of agreement by both the buyer and seller, the real estate brokerage will continue to hold the deposit until a court adjudicates the issues in dispute and determines the rightful recipient of the deposit .

The down payment refers to the amount paid by the buyer up to the value of the mortgage. The sum of the down payment (including the deposit) and the mortgage will equal the purchase price. Whereas the deposit is generally paid at the time of the offer, the remainder of the down payment, along with the mortgage amount is usually paid to the seller upon closing.

Similar to the deposit, the amount of the down payment is not fixed. It depends on the particular lender and current lending trends. A buyer who wishes to minimize his cash requirements will opt for the maximum available mortgage. In some cases, the mortgage may be for 90 to 95 per cent of the purchase price. Any mortgage amount above 80 per cent of the purchase price requires mortgage loan insurance. The premium is determined by the ratio of the mortgage value to the purchase price as well as by the amount being borrowed.

From the perspective of the seller, both the deposit and the down payment need to be paid in cash. Whereas the deposit must be paid upfront from readily available cash, the down payment is paid on closing and can be raised from sources like the sale of an existing property or the proceeds of an RRSP (up to $20,000).

The deposit and the down payment are often confused but they are not the same thing and the buyer should be well aware of their differences before they start house shopping.