Understanding an Escrow Account

An escrow account is an easy way to manage property taxes and insurance premiums. You don’t have to worry about saving for them because you make one monthly payment where:

Part of your payment goes toward your Principal and Interest payment for the loan, and

The other part goes into your escrow account and held to pay property taxes and insurance premiums (like homeowners’ insurance, mortgage insurance, flood insurance, and even homeowners association dues).

When those bills are due, your servicing lender will use the funds in your escrow account to pay those expenses for you.

*Helpful Hint – If you just built a new home, your property taxes are based on the land value until the assessor can assess the new building. Those property taxes WILL go up when your home’s value is assessed and taxed. Plan to put extra money towards your escrow early on to make sure you aren’t surprised by a large increase in payment because of the increase in taxes and associated escrow payment.

YOUR ESCROW PAYMENT AMOUNT WILL CHANGE ANNUALLY.

Property taxes and insurance premiums change over time. Your escrow account will be re-evaluated annually to make sure you have enough to cover these expenses. To help with any unexpected increases, you need to always keep a minimum balance in your account. This is called your cushion and is usually 2 months worth of your escrow payment.

During an escrow account review, your servicing lender will figure out how much will be in your account for each month for the next 12 months. At its lowest point, if it’s projected to be:

Below the minimum balance, you’ll have a shortage, and your monthly escrow payment will be increased to cover the shortage. That means you monthly mortgage payment will increase. Your principal and interest payment remains the same, but it’s the escrow portion of your payment that will increase. Some servicers allow you to make a deposit into your escrow account to cover the shortage amount to prevent your monthly mortgage payment from increasing drastically.

Above the minimum balance, you’ll have an overage. In the case of an overage, the servicer will cut you a check for the overage amount. You can choose to keep that money or redeposit it back into the escrow account to cover any surprise shortages the next year.