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What does “escrow” have to do with my mortgage payments?

“What does it mean when my mortgage lender says my mortgage is going to have an escrow?”

Your mortgage lender is referring to the account that will use a portion of your monthly mortgage payments to pay your property taxes, homeowners’ insurance, and if applicable, private mortgage insurance.

A little while back, we examined the meaning of “escrow” in the context of earnest money deposits and settlement funds. An escrow account is a third-party account that holds money safely and distributes it to the right place at the right time. That can also apply to money you need to earmark for taxes, insurance, and any other managed expenses after you have bought your house.

In the case of the escrow account attached to your mortgage, the payment you make each month gets separated out. The principle and interest owed to your mortgage servicer is paid right away while the amount set aside for taxes, homeowners’ insurance and mortgage insurance (if applicable) waits in your escrow account. When it comes time to pay these bills, that amount has been accounted for, and is paid directly from your escrow account.

What if too much or too little was set aside?

Each year, your escrow account is reviewed for overages or shortages and a new estimation is set for what you’ll need for the next year. If an overage is found, the excess money is sent back to you. If a shortage is found, your mortgage servicer lets you know and typically gives you the option of paying the difference or raising your monthly payment over the next year to compensate.

Can I get a mortgage without an escrow account?

Yes. And this may be where the myth about a home buyer having to hand over a 20% down payment was born. In general, for instance, if you’re looking at a conventional mortgage loan, the mortgage lender is going to require an escrow account if you borrow more than 80% of the property’s worth. From a lender’s perspective, an escrow account is good sense. Everything gets paid accurately and on time.

Other mortgage programs have their rules about escrow and down payment sizes, so it’s always a good idea to take questions about this to your trusted mortgage loan officer. There can be pros and cons, if you’re weighing whether using an escrow account with your mortgage makes sense for you, so you’re going to want to bring all the facts of your situation when you seek guidance. A loan officer is going to be familiar with the mortgage products available to you, and will be able to educate you on what that means for you specifically.

If you do get a mortgage without an escrow account, you’re going to want to make sure to pay your property taxes, insurance, etc. on time. Failure to do so can jeopardize your ownership of that property.

The next time you’re talking with your mortgage lender, and they refer to your escrow account, you can nod sagely and say with full confidence, “I understand.”

Now get out there and find the home of your dreams.