If you own your home, there’s a strong chance you have an escrow, or impound, account with your mortgage lender. This account is used to pay property-related expenses like taxes and insurance, which are wrapped into your monthly mortgage payment.
As the end of the year approaches, you’ll probably be receiving an annual statement about this account from your lender.
These statements contain a lot of information, and for new homeowners, they may be a little confusing.
Bankrate spoke to Debra Johnson-King, executive director of Global Empowerment Development Corporation, a HUD-approved housing counseling service, who works with One United Bank in Florida, about the ins and outs of these accounts, to walk us through what we need to know.
What is an escrow account?
“This is a special account that’s set up by your bank or your mortgage lender to pay certain expenses associated with your home,” Johnson-King said.
Escrow, or impound, accounts became more common after the Great Recession were unable to pay their taxes and insurance premiums when they came due, which contributed to the housing bubble’s pop.
“One of the best practices that came out of the CFPB, especially for first-time homeowners, was establishing an escrow account, so they would not run into that problem again,” Johnson-King said.
As an example, she explained, if your homeowner’s insurance premium is $1,200 per year, the bank will let you pay to them $100 each month, so that when it comes time to pay your insurance for the following year, that money will already be there. It prevents you from having to scramble to find $1,200 when it’s due. Your property taxes are handled in a similar way, and the funds for your escrow account are added onto your monthly mortgage payments.
When you have an escrow account, your monthly mortgage bill includes your principal and loan interest, plus your property taxes and your insurance — hazard insurance, and flood insurance if you’re in a flood zone as well. That means your monthly payments could change, even with a fixed-rate mortgage, if your other expenses fluctuate. So if your property taxes or insurance premiums go up, so will your monthly payments to your mortgage lender.
What information does an escrow statement contain?
Typically, statements have a few sections and contain some crucial information.
“Normally at the top you’ll have your account number, the date that the statement was prepared on, you’ll have your principal balance, the property address, those types of things,” Johnson-King said.
The statement will also list your insurance, your property taxes, and the due date of each of those items, plus and the projected disbursement of how much your lender expects to pay when each of those those items come due.
Another section will also show you whether there’s a surplus or a shortage. It will show you the anticipated disbursement amount and the balance that’s currently in your escrow account.
It will also provide information on your payment history.
What is an escrow shortage?
Lenders often base your escrow payments on estimates of your property taxes and other expenses. If your taxes go up or your property is assessed for a higher value than anticipated, your escrow account may not be able to cover the full charges, so you may owe a larger lump sum at the end of the year. If you’re worried about such unexpected costs, you may be able to pay extra into your escrow account in advance.
“Some lenders will also let you cushion your escrow account with up to two months-worth of payments, though that amount varies by location, type of mortgage and lender in question,” Johnson-King said. “Paying in that extra amount, which would help offset cost increases, is a personal choice. for some people this money could be put to better use if held in an interest bearing account and withdrawn only if and when needed.”
How should an escrow statement be read? What should borrowers look out for?
“Borrowers really need to see if there’s a shortage, because that’s what’s going to cause the most negative impact to their pocket,” Johnson-King said.
The amount covered by your escrow account isn’t up to the bank though, Johnson-King said. It really determined by what the insurance market is doing and the politicians who control your property taxes.
“On the other hand, if you’ve paid in more than you owe, you should be able to get money back,” she added. “By law, if the account has a surplus of $50 or more, a check will be sent to you. If the surplus is less than $50, that will usually just stay in your account, although the exact rules for surpluses vary by state.”
Those reimbursements apply to intentional ‘cushion’ overpayments, too.
Do borrowers need to respond when they get an escrow statement? How?
“Any time there’s a change to anything in your financial health, pick up the phone and call somebody,” Johnson-King said. “Contrary to popular belief, the banks don’t want your house. They’re not in the real estate or property management business. They want to keep you in that house — that’s how they get their interest, that’s how they get paid.”
So, it’s important to stay in touch with your lender.
“Also, that’s one of the perks of having someone like me in your pocket as a housing counselor,” she added.
What else should people know?
For most homeowners, an escrow account is usually a good idea.
“It’s going to relieve a lot of stress for you. Not everyone is good at budgeting their money. Most lenders will set up an escrow account for you if you request it,” Johnson-King said.