Estimated reading time: 7 minutes
Purchasing a home is one of the largest financial commitments a person can make. When you’re investing hundreds of thousands of dollars into a purchase, it’s important that your money and assets are protected.
An escrow account can help ease the anxiety you may feel about putting down a large sum of money for a home before your loan is closed. Another type of escrow account can help with other expenses related to homeownership.
With so many moving parts in the homebuying process, understanding the different types of escrow and what is kept in each account can help you make confident decisions based on your home financing needs.
Essentially, escrow is a third-party account used to hold money, paperwork, or property until agreed upon conditions are all met.
In the mortgage process, there are two different escrow accounts that are dependent on whether your loan has closed or not: purchase escrow and mortgage escrow. We’ll cover both kinds of escrow, what information or assets are kept in the accounts, and who oversees the accounts.
Purchase escrow, also sometimes called transactional escrow, is a temporary account utilized during the home buying or selling process. It helps manage the many financial and administrative steps involved in a real estate transaction.
Escrow protects buyers by ensuring their earnest money funds are held securely and distributed to the appropriate parties at closing. It also protects sellers by holding important documents, such as the deed, until all terms of the sale are met. Once the transaction is complete, escrow facilitates the proper transfer of funds and ownership, providing a clear and orderly change in responsibility.
When your loan closes, your purchase escrow account closes as well.
During a home purchase, escrow is typically managed by a title company or an escrow company, depending on the state. The purchase escrow account holds the buyer’s earnest money, lender funds, and other amounts due at closing. It also holds required transactional documents until all conditions of the sale have been satisfied.
After your loan closes, certain payments for ongoing housing expenses may be held in escrow. Your mortgage servicer will manage your account at this time. The servicer collects a portion of your monthly mortgage payment and holds those funds until the related bills are due.
A mortgage escrow account is commonly used to collect funds for expenses such as property taxes and homeowners insurance. In some cases, private mortgage insurance (PMI) is kept in escrow as well. This allows homeowners to pay these costs gradually as part of their monthly mortgage payment rather than paying large bills separately when they come due.
Because tax amounts can change from year to year, your mortgage servicer will review your escrow account annually and adjust your monthly payment as needed based on prior tax bills.
Your homeowners insurance protects your home, personal belongings, and personal liability. Most standard policies cover damage to the interior and exterior of the home, loss or damage of belongings, and liability for injuries that occur on the property. Your escrowed funds are typically used to pay the annual insurance premium when it comes due.
Private mortgage insurance is typically required on conventional loans when the down payment is less than 20%. PMI protects the lender if the borrower defaults on the loan. In some cases, PMI premiums may be included as part of your monthly mortgage payment. It may also be escrowed, depending on your loan. On a conventional mortgage, PMI is automatically canceled once the borrower reaches 22% equity.
Whether escrow is required will depend on your loan program and lender guidelines. Many mortgage loans require a mortgage escrow account to ensure property taxes and homeowners insurance are paid on time, helping protect both the homeowner and the lender.
Conventional mortgages that have down payments smaller than 20% usually require PMI. PMI premiums are usually included as part of the monthly mortgage payment and in some cases, may be collected alongside escrowed expenses.
In some cases, conventional mortgages with a down payment larger than 20% or VA programs may allow escrow to be waived. However, it may be dependent on lender guidelines and borrower qualifications. Because escrow requirements can vary, it’s best to check with your Licensed Loan Originator.
Escrow serves as a neutral third party that helps protect both buyers and sellers during different stages of a real estate transaction. It ensures that funds and documents are properly handled according to the terms of the purchase agreement.
When purchasing a home, an escrow account holds the buyer’s earnest money deposit until the transaction is completed. This protects the buyer by ensuring the funds are not released until all contractual conditions are met. At closing, the earnest money is credited toward the buyer’s down payment and/or closing costs. If the seller fails to meet the terms of the purchase agreement, the earnest money is typically returned to the buyer.
Escrow also protects home sellers by holding the buyer’s earnest money deposit during the transaction. If the buyer backs out of the purchase agreement without a valid contingency outlined in the contract, the seller may be entitled to the earnest money. This can help compensate the seller for the time and expense of relisting the property.
Escrow protects mortgage lenders’ investments and ensures property taxes and insurance remain current. Additionally, it can help reduce the chance of missed payments because expenses are handled automatically and on time.
An escrow account can help to reduce stress for established homeowners, allowing for consolidation of multiple large bills into predictable monthly payments that can be budgeted. It also minimizes human error by automating critical transactions and reducing the risk of financial mismanagement between accounts. This is especially helpful for first-time homeowners who may be new to budgeting for larger homeownership costs in addition to their monthly payments.
When it comes to a major financial transaction, it’s important to rely on experts in the industry. Just as you lean on a salesperson to help you find the best car for your needs, our Licensed Loan Originators want you to meet your home financing goals. At McGlone Mortgage, we will walk you through escrow and every part of the mortgage process. Contact us today to connect with a Licensed Loan Originator.
McGlone Mortgage Group offers exceptional customer service and a convenient mortgage process. Whatever your financing needs, our goal is to exceed your expectations.
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