What is an Escrow Account?
An escrow account is established as a way for the lender to pay the annual property taxes, insurance premiums , and mortgage insurance [MI] (if required) on a borrower’s behalf. These payments would be included in your monthly mortgage payment along with the principal and interest. However, unlike the principal and interest, which are paid to your lender; the portions of your monthly payment allocated to pay the property taxes, insurance, and MI (if applicable) are held in your escrow account. The account works as a holding account; when it comes time to pay the applicable bills, those payments will be disbursed by the lender, from the escrow account.
Each year, your lender will estimate your property taxes, homeowner’s insurance, and MI (if required) owed based on the previous year. When there is an increase or decrease, your monthly mortgage payment will be adjusted to reflect the change. This is referred to as an escrow analysis. Your adjusted payment and an escrow shortage or overage (if applicable) will be noted on your Annual Escrow Analysis Statement.
Escrow shortages occur when any of the bills paid by the escrow account increase. It can come as a shock to get a notification of an increase in your mortgage payment as a result of an escrow shortage. While it can be frustrating to have your mortgage payments go up due to increased property taxes, there is a silver lining – this may reflect an increase in the value of your home, which can mean equity for you.
Escrow overages occur when your lender’s estimate of your escrow account bills is too high. When an overage occurs, the lender will issue a check for the difference and may reduce your monthly payment.
When you purchase your home, your lender will tell you if an escrow account is required or not. An escrow account would be required if the:
- Loan to Value Ratio exceeds certain limits and MI is required;
- Loan is classified as a High-Cost Mortgage; and/or
- Property is located in a flood zone and flood insurance is required.
All loans subject to approval.