Basics: The Escrow Account in Mortgage Loans

German A. Salazar

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Real Estate Attorney

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Posted about 4 years ago. 8 helpful votes



What are the Benefits and Disadvantages of Having an Escrow Account?

The principal benefit of the escrow account is that you won't be surprised by or unprepared for the expense of your property tax and homeowners' insurance bills when they come due. With the escrow account, a proportionate amount of those projected expenses is added to your monthly payment amount and the lender makes the payments directly and on time, thus avoiding late charges and lapses of coverage. The disadvantage is that you lose the use of the funds for other purposes during the year. Despite that, an escrow account is a good idea for most people because it helps them avoid default in difficult times. Think of it as a special savings account for property taxes and insurance.


Will I Earn Interest on the Escrowed Funds?

In most states, no interest is paid on escrow account funds. However, your lender will, in most cases, be required to pay interest on your escrow account if you are in one of these 14 states: California, Connecticut, Iowa, Maine, Maryland, Massachusetts, Minnesota, New Hampshire, New York, Oregon, Rhode Island, Utah, Vermont and Wisconsin. The amount of interest isn't much and there are some exceptions but check with your lender in those states.


Can I Ask My Lender to Add an Escrow Account to My Loan?

Yes, most lenders are very willing to accommodate this type of request. There should be no charge involved for setting up an escrow account. However, you should be aware that the initial deposit into the account will have to be enough to cover the anticipated disbursements and leave a small cushion (more on this below). Because the timing of those disbursements is determined by local taxing authorities and the anniversary of your insurance policy, that initial deposit may be substantial. The lender will calculate the required amount and inform you of it.


Can My Lender Require an Escrow Account After Origination?

If your loan originally didn't have an escrow account, but you fail to make tax and insurance payments when they are due, the lender has the right, under the terms of the mortgage, to create an escrow account. The lender will advance the funds due to the tax collector or insurance company and start collecting for those advances as well as for renewal payments as part of your monthly payment. The mortgage gives the lender wide ranging rights to make sure that the property (which is the collateral for the loan) is protected from liens and hazards; advancing funds and escrowing is often required to make sure of that protection.


What is Lender-Placed or Force-Placed Insurance?

If a borrower fails to pay his homeowner's insurance, the lender will pay for a policy on its own. This is known as lender-placed or force-placed insurance. LP/FP insurance covers the structure of the property against major casualty (e.g. fire) but offers no contents insurance to the homeowner nor any of the other useful features of a homeowner's policy. Additionally, the lender, not the homeowner, is the policy holder and will make significant decisions in the event of a covered event. Further, LP/FP insurance is very expensive, often 5 to 6 times the cost of a conventional homeowner's policy. The cost is based on the fact that LP/FP insurance will cover any property, on a moment's notice, without inspection and under the presumption that there is something adverse happening which led to the borrower failing to cover it. That may not seem fair, but it is an easily avoided situation - maintain your homeowner's coverage, work out a payment plan if needed, but don't let it lapse!


How Can I Get Rid of Lender-Placed Insurance?

LP/FP insurance can be canceled at any time by purchasing a homeowner's policy to replace it. Contact your lender to make sure the policy you buy meets their requirements. Any advances charged to your escrow account for the LP/FP policy will be credited back (proportionately to the time elapsed) once the voluntary policy takes effect. Your lender will not advance for a normal homeowners' policy. Because the policy would be in your name, cancellable by you (with a return of advanced premium to you) that would constitute a new loan in the amount of the policy and that's not what escrow accounts are set up to do.


What Are Escrow Advances?

Any time the lender has to pay for items such as taxes and insurance and there is not enough money in the escrow account (or there is no escrow account yet) that is an escrow advance. That advance amount becomes a recoverable item within the escrow account and the monthly payment will be adjusted to recover that over a period of time, usually one year, sometimes less depending on the amount. If your account has significant advances and the recovery makes the payment unaffordable, you can ask the lender to spread recovery of the advances over a longer period, but the lender is under no obligation to spread over a longer period.


What Is an Escrow Analysis?

Once a year, your lender will analyze the escrow account to determine whether or not the amount being collected is correct. The analysis factors in the amount and timing of the required disbursements and calculates the balance needed for each month of the annual cycle. The lowest amount held in escrow at any time of the year should equal two months' escrow payment. That two month cushion is required to ensure that there are enough funds in escrow to cover potential increases in taxes or insurance premiums and is authorized by RESPA, the law governing escrow accounts. Once all these factors are analyzed, the lender sends the borrower an escrow analysis statement showing the calculations and setting forth the new monthly escrow amount. A borrower in default on your loan, may or may not receive an escrow analysis statement. However, if there is a deficiency (negative balance) in the escrow account, the borrower should at least get a notice specifying the amount of the deficiency.


Can I Have My HOA Fees Escrowed?

Generally speaking, no. Escrow accounts are not typically used for HOA fees and lenders will not usually accommodate this type of request. Remember that an escrow account creates an advance obligation for the lender if the borrower is delinquent, and HOA fees are not an item that a lender will advance during delinquency as it is not a lien protection or property preservation issue. As with a homeowners' policy, advancing for HOA fees would essentially constitute a new loan in that amount.


My Account Statement Shows a Suspense Balance - What's That?

A suspense balance is an amount being held in escrow for the borrower's benefit. Often, it is an amount received from the borrower that is insufficient for a full payment and is held pending the receipt of additional funds. Once there is enough in Suspense to make a full monthly payment, the funds are applied. There can be other reasons for a Suspense balance such as refunds from tax and insurance overpayments, funds held during foreclosure and more. If you are unsure of why your account shows a Suspense balance, contact your lender.


What Happens to the Escrow Balance When the Property is Sold or Refinanced?

The money in the escrow account belongs to the borrower. At the time a loan is paid off, whether through sale or refinance, the funds are returned to the borrower (usually within 10 days). However, in some cases, the borrower may request that the funds be applied to the payoff, this is commonly done when the payoff amount exceeds the sale price of the house. In a short-sale or reduced-payoff refinance, the borrower will usually be required to apply the escrow balance to the loan balance.


Can I Cancel My Escrow Account?

Maybe, it depends on a few factors. If the loan was originated with an escrow account as a requirement, then no. If the borrower asked to have an escrow account (whether at origination or subsequently) and is current on his loan payments, the escrow account can be discontinued. If the escrow account was forced due to delinquency, it is unlikely to be removed unless and until the borrower has cured the delinquency and demonstrated a reasonable period of timely payment as well as repaid any deficiency in the escrow account.

Additional Resources

Clickable Escrow Analysis Statement Guide

More Escrow Questions

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