As a home buyer or homeowner, you might run into the word “escrow.” The meaning of escrow depends on whether you’re in the process of buying the home or you already own it.
What is escrow?
The first type of escrow refers to the period before the home sale is finalized at the closing table. The second type of escrow refers to the time when you own the home and are making monthly mortgage payments.
- In escrow: A home is said to be “in escrow” after the seller accepts your offer and until the sale is completed. Escrow is a process during which a trusted, neutral party — usually a real estate title company, an attorney or an escrow agent — holds your earnest money deposit, the seller’s deed and other paperwork until all conditions are satisfied at closing. Meantime, the lender processes the mortgage application, the title search takes place and you hire an inspector, buy homeowners insurance and prepare to move.
- Escrow account: If you get a mortgage to buy the home, the lender might establish an escrow account to collect money each month to cover your annual property taxes and insurance bills, and then pay them on your behalf when they come due.
Escrow before the home sale
Here’s more information about the items that can be held in escrow while a sale is pending:
- Earnest money. This is the deposit you paid to the seller to show that your offer is serious. It’s applied toward the down payment at closing.
- Seller’s deed to the property. The deed is the legal document that transfers ownership of the property. After the sale is completed, it’s transferred to your name and recorded at the county courthouse.
- Loan proceeds. The mortgage lender may hold onto the money until the closing is finalized. At that point, the money is distributed to the seller, and perhaps to a prior lienholder — for example, to pay off the balance the sellers owe on the home.
How escrow works and who pays
At closing, you’ll sign loan and property transfer documents. Once the paperwork has been wrapped up, money held in escrow is distributed to the parties involved in the sale.
Costs for escrow services are detailed, along with other fees, in the Loan Estimate and Closing Disclosure. Escrow fees sometimes are called settlement agent fees. In some housing markets, buyer and seller typically split escrow fees. In other places, escrow fees might customarily be paid solely by either the buyer or seller. Regardless of local custom, you may negotiate who pays which fees.
In most states there is no fixed fee for escrow services, and escrow charges are not regulated. An escrow agent may begin with a fixed fee but then charge for additional services such as wire transfers, copies and office expenses. Escrow charges can also be rolled into the title insurance provider’s fee.
Escrow account with a mortgage
An escrow account, also called an impound account, is a pot of money that you pay into with each mortgage payment. When your property taxes and homeowners insurance premiums are due, the mortgage servicer pays them from the escrow account.
The mortgage servicer spreads the cost out so that you pay about one-twelfth of your taxes and insurance bills every month, which keeps you from having to come up with the full amount when it’s due. An escrow account assures that your taxes and insurance will be paid in full and on time.
Monthly payments can vary from year to year
Every year, the mortgage servicer estimates how much your annual tax and insurance bills will be in the next 12 months. These costs often vary from year to year, sometimes going down and often going up. The servicer adjusts the amount of money deposited into the escrow account each month to reflect changes in the costs of taxes and insurance. When the servicer does this, your monthly payment changes.
The annual escrow statement will detail how much money the servicer collected from you and how much it paid to tax authorities and insurers.
Who is required to have an escrow account?
Typically, Federal Housing Administration-insured loans require escrow accounts for the full term. Many other mortgage programs require escrow accounts to ensure that you have enough money to pay your property taxes and insurance.
Escrow accounts are budgeting aids. If you struggle to make large and infrequent payments, they can be a source of support, and sometimes you aren’t given the opportunity to opt out.
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