If you’re buying a home, you may be curious as to why escrow accounts are such a common part of the process. As a homeowner, your home is likely one of your biggest assets, if not the most important, and it’s important to protect it with the right homeowners insurance policy. If something happens to your house and it’s uninsured, you may not be able to recover financially. That’s where home insurance escrow accounts come in.

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An escrow account is designed to ensure that policyholders have enough funds to cover their home insurance premiums, and that the payments are made on time. This ensures that the homeowners policy stays active on the home. Not every homeowner is required to use an escrow account, though. If your lender allows you to opt out of using an escrow account, you may be considering whether to use one. Before you make a decision, though, it may be helpful to understand why an escrow account is established and what the pros and cons are of having one.

What is a homeowners insurance escrow account?

An escrow account is a separate bank account set up by a mortgage lender to pay for several key items related to your mortgage, including the homeowners insurance policy on your home. Many lenders require that the homeowners insurance for your home be paid through escrow to ensure that the bills get paid, and an escrow account can be used to hold the money for property taxes and mortgage insurance too. In some cases, escrow accounts may be required by law.

The money for the escrow account comes from a portion of your monthly mortgage payment, which is deposited into the escrow account and managed by your mortgage servicer. When the lump sum for your homeowners insurance is due, your servicer will pay the bill using the money in the escrow account on your behalf.

How does an escrow account pay for homeowners insurance?

Before closing on a home, you will want to verify if your lender is required to set up an escrow on your behalf or if you have the option to handle it yourself. If your lender is responsible for setting up the escrow account, you will need to pay attention to any documents related to escrow during the closing process. Once the lender or bank sets up the escrow account, you will pay towards it each month when you make your mortgage payment.

Homeowners insurance premiums are quoted for one year. Because the lender requires you to carry insurance for your property, the escrow account is established to ensure the payment is made. The amount you are quoted for annually is divided up into 12 equal payments, which is the amount established for monthly payments. When you close on your property, the first year of premiums is typically included in the closing costs.

For example, if your homeowners insurance premiums are $1,000 annually, the payment will be $83 per month and added into the escrow account. Keep in mind that while your homeowners insurance premium could increase or decrease, it may not change your total monthly payment each month. It is possible your taxes or mortgage payments could also change, which might offset any changes to your homeowners insurance premiums.

Am I required to escrow the money for my homeowners insurance?

Whether or not you’re required to escrow the money for your homeowners insurance may depend on the type of mortgage loan you have or the down payment you make. If you put 20 percent down on a conventional loan, you may be able to avoid escrow. However, if you put less than 20 percent down on a conventional loan, escrow is typically required. In addition, FHA and USDA loans also require escrow accounts. However, VA loans do not.

But whether or not you are required to escrow accounts, it may be worth considering. By escrowing the money to pay for your homeowners insurance policy, you’re making sure your obligations as a homeowner are met without much effort, which can be a big plus. And, with the money for your homeowners insurance coming from your escrow account, you’ll know that your home is protected in the event of a natural disaster, which can be a big relief if or when a covered event occurs.

Pros and cons of paying homeowners insurance with an escrow account

There are a few upsides and potential downsides of paying your homeowners insurance with an escrow account. While some homeowners like knowing the annual bill can be taken care of without much hassle, other homeowners might want to take on the responsibility of making annual payments themselves.

Pros Cons
When the homeowners insurance bill is due, the money should already be set aside to cover it as long as you have kept up on payments. There is a larger upfront payment with closing costs, since you are generally required to prepay homeowners insurance.
Because your mortgage lender handles the payment for you, it’s one less task to remember. You potentially miss out on short-term investment opportunities by not saving the money in your own account.
Some states allow you to earn interest from the escrow account. There are higher monthly mortgage payments with no option to alter the payment if your budget is tight that month.
Homeowners insurance becomes an automatic payment with no surprises when the bill is due.

Keep in mind, the type of loan you have and the state you live in may require you to have an escrow account. However, if you have a choice, you should consider if the pros outweigh the cons for you and if you are disciplined enough to set aside the money for the annual payment or monthly payments yourself. Some homeowners prefer to keep the money in their own account so they can control how the money is saved or invested.

Should you keep your home insurance after paying off your mortgage?

Once your mortgage is paid off, you will face the question of whether you should maintain a homeowners insurance policy since homeowners insurance is not a legal requirement. Before giving up the policy, remember that homeowners insurance can help you avoid financially devastating out-of-pocket costs should your property be damaged or destroyed by a covered loss.

Your property is likely to be your most valuable asset and homeowners insurance can help you financially protect it when covered damage or loss occurs to the structure. Additionally, it also covers your personal belongings inside your property. If someone gets hurt while on your property, you will have peace of mind knowing the personal liability coverage from your policy can help pay for their medical expenses and help you defend yourself in court if needed. Some of the expenses associated with medical bills or repairs to the home can be quite costly. A proper homeowners insurance policy could help keep your out-of-pocket costs to a minimum and keep you from facing exceptionally large medical or construction costs. Plenty of affordable home insurance companies are also available.

Frequently asked questions

    • The best homeowners insurance company varies for each person depending on their needs and wants for their policy. Some homeowners may prioritize cost over customer service, while others may want a policy that offers access to add-on coverage that isn’t available elsewhere. To help determine the best home insurance company for your needs, it may benefit you to compare your options based on the factors that are most important to you. This could include coverage options, discounts, third-party ratings and reviews, as well as the digital experience of a carrier.
    • If you don’t pay your premium on time, the insurance company may send you a notice saying that your policy could be canceled. The insurance company may also notify you that you will have a grace period to pay your premium. This will vary from company to company and from policy to policy. If you fail to pay by the grace period, then the policy will likely be canceled.If you get a notice about your policy being canceled, it’s recommended that you reach out to the insurance company quickly to figure out the reason and to find a resolution. Usually, if you pay the premium after the grace period ends, the policy will not be canceled and your coverage remains active.
    • Yes, you can typically remove homeowners insurance from an escrow account, but it may vary depending on your mortgage lender and the state you live in. Some states require escrow accounts on homes that were purchased with mortgage loans. If you live in a state that does not require escrow accounts, most home insurance companies will allow you to pay your homeowners insurance policy premiums directly, provided that your lender has unlocked your escrow account. If you no longer want to use an escrow account, you’ll need to contact your mortgage lender and find out how to close the account. You’ll then need to work with your insurance company directly to arrange payment.