Escrow and property taxes

In short

If you are holding a mortgage bill and wondering why it is bigger than the loan payment alone, the escrow account is usually the reason. Your lender collects a slice of your property tax and insurance each month and pays those bills for you. Once a year, the servicer (the company that handles your loan) checks the account and tells you whether your payment goes up or down. Read that yearly statement the day it arrives. If it shows a shortage, ask whether you can pay it in one lump sum or spread it over twelve months. Keep your own copy of your county tax bill. Checking it takes ten minutes.

The whole of it

What it is

A friend of mine once opened his mortgage statement and asked me, honestly puzzled, who Escrow was and why he was paid so much. I laughed, but I understood him. The word sounds like a person, and it is really just a holding pen for money.

An escrow account is a separate account your loan servicer keeps for you. Each month, part of your payment goes into it. The servicer then uses that money to pay your property tax bill and your homeowners insurance when those bills come due. Some homes also have flood insurance or mortgage insurance paid the same way.

Property tax is a yearly charge from your county or city, based on what your home is judged to be worth. It pays for schools, roads, and local services. Missing it is serious, because an unpaid tax bill can become a claim against the house. That is why lenders like to handle it. They want the bill paid, since the house secures their loan.

You have probably heard people call this account an impound account. Same thing, different name. In some parts of the country, the word is used more than escrow.

How it works

If you have ever set aside a little each week for a big holiday bill, you already know the idea. Nobody enjoys a single large charge landing in the mailbox. So the servicer divides your yearly costs into twelve equal parts and adds them to your loan payment.

Here is the flow. You send one payment each month. The servicer splits it. One part goes to the lender for principal and interest. The other part goes into escrow. When the tax bill or insurance bill is due, the servicer pays it from the escrow balance.

Once a year, the servicer does an escrow analysis. That is a fancy name for a checkup. They add up what they paid out, look at what the bills are expected to be next year, and compare that to what sits in the account. Bills often rise. Home values go up, tax rates change, and insurance prices move. So your monthly payment may change even when your loan rate is fixed. Many people are caught off guard by this.

The law lets the servicer keep a small cushion in the account, so a surprise does not leave a bill unpaid. Under the federal rule for escrow accounts, that cushion is limited to the current figure, which the official source publishes each year. The rule comes from the Real Estate Settlement Procedures Act, known as RESPA, and its regulation, Regulation X, which the Consumer Financial Protection Bureau publishes and explains on its website.

If the analysis finds too little money, that is a shortage. If it finds too much, that is a surplus, and the servicer must refund it to you when it is above the amount the rules set. The refund threshold is the current figure, which the official source publishes each year. Either way, the servicer sends you a statement explaining what it found.

The numbers, and where to find yours

I once sat with a neighbor at her kitchen table while she hunted through a pile of papers for her tax bill. She found it wedged behind a seed catalog. A little order goes a long way here.

You need four numbers. The first is your yearly property tax bill. Your county or city sends it, and most local tax offices also post it online. Search for your county name plus the words property tax lookup. The second is your yearly homeowners insurance premium. It sits on your insurance declarations page. The third is your current monthly escrow amount. It appears on your monthly mortgage statement. The fourth is the projected escrow payment for next year. You will find it on your annual escrow statement.

Your annual escrow statement also shows what was paid in, what was paid out, and the lowest balance the servicer expects. That last number tells you how close the account came to running dry.

For the rules themselves, go to the source. The Consumer Financial Protection Bureau explains escrow accounts in plain language at consumerfinance.gov. The servicing rules live in Regulation X. If you want the legal text, the Electronic Code of Federal Regulations posts it free.

A worked example

Let me tell you about Maria Alvarez. She bought a house last spring with a loan payment of 1,150 dollars a month for principal and interest. Her county tax bill was 3,600 dollars for the year. Her insurance premium was 1,200 dollars for the year.

Here is how her servicer worked out her escrow. Add the two yearly bills: 3,600 plus 1,200 equals 4,800 dollars. Divide by twelve months: 4,800 divided by 12 equals 400 dollars a month. Her full monthly payment came to 1,150 plus 400, which is 1,550 dollars.

A year later, the county raised her tax bill to 4,080 dollars. Her insurance rose to 1,320 dollars. The new yearly total was 4,080 plus 1,320, which equals 5,400 dollars. Divide by twelve: 5,400 divided by 12 equals 450 dollars a month. Her escrow payment went up by 50 dollars, from 400 to 450.

That was not the whole story. Her account had also fallen short. The servicer had collected 400 dollars for twelve months, which is 4,800 dollars. But the bills it paid added up to 5,400 dollars once the raises landed. Say the shortage the servicer found was 600 dollars. She had two choices. She could pay 600 dollars at once. Or the servicer could spread it over twelve months, which is 600 divided by 12, or 50 dollars a month.

If she chose to spread it, her new escrow payment was 450 plus 50, which is 500 dollars. Her total monthly payment became 1,150 plus 500, which is 1,650 dollars. That is 100 dollars more than the year before. Maria was startled, and I do not blame her. But she had read her statement early, so she had time to plan. She also checked her own county bill against the servicer's figure and found they matched.

Where it goes wrong

A woman I know once told me the worst money surprises are the ones you could have seen coming. Escrow trouble is often that kind.

The first snag is the payment jump. Your loan rate may be fixed, but taxes and insurance are not. When either rises, your monthly bill rises. Budget with that in mind.

The second is a wrong figure. Servicers are human institutions. A tax amount may be entered incorrectly, or your bill may have changed after an appeal. Compare the servicer's numbers with your own county bill and your own insurance page. If they differ, call and ask them to explain.

The third is a change in your home's assessed value. If your county raises the value after a sale or an improvement, your tax bill may climb. Many counties allow an appeal. Your local assessor's office can tell you the deadline and the steps.

The fourth is a lapse in coverage. If your insurance policy ends and you do not replace it, the servicer may buy coverage on your behalf. That is called force placed insurance. It often costs more and may protect the lender better than it protects you. Keep your own policy current.

The fifth is a missed refund. A friend of mine once waited months for a check that had never been sent. The rules say a servicer must refund a surplus above the refund threshold. If your statement shows a surplus and no check has come, call your servicer and ask where it stands.

One last snag deserves a plain word. Some loans let you drop escrow and pay the bills yourself, and some do not. That depends on your loan terms and your lender. Ask your servicer what applies to you. Check first.

Questions to answer before you leave this page

Do you know the yearly amount of your property tax bill, and could you find it in under five minutes? Have you read your last annual escrow statement all the way through, including the part about shortages and surplus? Does the tax figure your servicer used match the figure on your county bill? Is your homeowners insurance current, and does the premium your servicer pays match the one on your declarations page? If your monthly payment rose by 100 dollars next year, could you cover it without strain? Have you looked at whether your county lets you appeal your assessed value, and when the deadline falls? And do you know whether your loan lets you pay these bills yourself, or whether escrow is required?