When you buy a home, your monthly mortgage payment may include more than just the principal and interest on your loan.
Depending on your loan and financial situation, part of your monthly payment may be placed into an escrow account to help cover expenses such as property taxes and homeowners insurance.
Understanding how a mortgage escrow account works can help you better understand where your monthly mortgage payment goes and why that payment can sometimes change.
What Is a Mortgage Escrow Account?
A mortgage escrow account is an account used to hold money that will be needed to pay certain homeownership expenses.
Instead of paying your property taxes or homeowners insurance bills separately when they are due, you may make monthly payments toward those expenses as part of your mortgage payment.
Your mortgage servicer then holds those funds in the escrow account and uses them to pay eligible bills when they become due.
For many homeowners, this can make managing recurring homeownership expenses easier.
What Does Escrow Pay For?
The exact expenses covered by escrow can vary depending on the loan and your circumstances.
Common expenses may include:
- Property taxes
- Homeowners insurance
- Flood insurance when required
- Other approved property-related expenses
Your mortgage documents should explain which expenses are included in your escrow account.
How Does Mortgage Escrow Work?
The process is relatively straightforward.
When your mortgage payment is calculated, your lender or servicer estimates the amount needed for property taxes and insurance.
A portion of that estimated annual cost is then included in your monthly payment.
For example, if your estimated annual property taxes and homeowners insurance total $6,000, the escrow portion could be approximately $500 per month.
The actual amount will depend on your specific property, insurance costs, tax bills, and loan requirements.
When the bills become due, the mortgage servicer uses the money held in escrow to make the payments.
Why Is Escrow Included in Your Mortgage Payment?
Escrow can make it easier for homeowners to budget for large annual or semiannual expenses.
Instead of receiving a large property tax bill and having to pay the entire amount at once, you can contribute toward that expense throughout the year.
Escrow can also help ensure that important expenses such as property taxes and homeowners insurance are paid on time.
This can help protect both the homeowner and the lender.
Can Your Mortgage Payment Change Because of Escrow?
Yes.
Your mortgage payment can change even when your principal and interest payment stays the same.
This can happen when property taxes or homeowners insurance premiums change.
For example, if your property taxes increase, the amount needed to fund your escrow account may also increase.
Similarly, if your homeowners insurance premium rises, your monthly escrow contribution may need to be adjusted.
This means a homeowner could see a change in their total monthly mortgage payment without having their mortgage interest rate change.
What Is an Escrow Analysis?
Mortgage servicers generally review escrow accounts periodically to determine whether enough money is being collected to cover upcoming expenses.
This review is often called an escrow analysis.
The servicer compares the money currently being collected with the expected property tax and insurance bills.
The analysis can identify whether the account is properly funded or whether an adjustment may be needed.
What Is an Escrow Shortage?
An escrow shortage occurs when the amount currently held in your escrow account is not enough to cover the required payments.
For example, suppose your property taxes increase significantly and the amount collected through your monthly payments was based on the previous tax bill.
Your escrow account may not have enough money to cover the new bill.
This can result in an escrow shortage.
Your mortgage servicer may then adjust your monthly payment to collect additional money and bring the account back to the required balance.
What Is an Escrow Surplus?
An escrow surplus occurs when more money is held in your escrow account than is required under the applicable rules and calculations.
Depending on the circumstances and applicable requirements, the excess funds may be returned to you.
If you receive an escrow surplus, remember that it does not necessarily mean your mortgage became cheaper.
It may simply mean that your property taxes or insurance costs were lower than previously estimated.
Why Did My Mortgage Payment Increase?
An increase in your mortgage payment does not always mean your interest rate increased.
Your payment could increase because of changes to:
- Property taxes
- Homeowners insurance
- Flood insurance
- Escrow requirements
- Other eligible expenses included in your payment
If you notice a significant change, review your mortgage statement and escrow analysis to understand what caused the adjustment.
Do All Mortgages Have Escrow Accounts?
No.
Whether an escrow account is required depends on factors such as the loan type, lender requirements, property characteristics, down payment, and other circumstances.
Some borrowers may be able to pay property taxes and insurance separately rather than through an escrow account.
Your mortgage professional can explain whether escrow is required or available for your particular loan scenario.
What Happens to Your Escrow Account When You Buy a Home?
An escrow account can be established as part of the mortgage process.
At closing, you may need to provide an initial escrow deposit depending on your loan and the timing of your upcoming property tax and insurance payments.
This money helps establish the account so that there are sufficient funds available when the first bills become due.
Your closing documents should show the amounts being collected for escrow.
How Can You Prepare for Changes in Escrow?
Homeowners should remember that property taxes and insurance costs can change over time.
You can prepare by reviewing your mortgage statements and paying attention to your annual escrow analysis.
It can also help to:
- Review changes in your property tax assessment
- Review your homeowners insurance renewal
- Keep track of changes to your monthly mortgage payment
- Read your escrow analysis carefully
- Contact your mortgage servicer if something is unclear
Understanding these changes can help you avoid surprises when your monthly payment is adjusted.
How OM Mortgage Can Help
Understanding escrow is an important part of understanding the total cost of owning a home.
OM Mortgage helps borrowers evaluate their mortgage options and understand the different costs that can affect their monthly payment.
As both a lender and broker, OM Mortgage offers access to multiple mortgage programs and lending sources, including Conventional, FHA, VA, USDA, Jumbo, Non-QM, Bank Statement, DSCR, and other financing solutions.
Whether you’re buying your first home, refinancing, or exploring different loan options, working with a mortgage professional can help you understand how property taxes, insurance, escrow, and other costs fit into your overall mortgage payment.
Conclusion
A mortgage escrow account helps collect and manage funds for expenses such as property taxes and homeowners insurance.
Instead of paying these expenses separately when they come due, homeowners with escrow accounts generally contribute toward them through their monthly mortgage payments.
It is also important to understand that your total mortgage payment can change when property taxes, insurance costs, or other escrow-related expenses change.
By reviewing your mortgage statements and escrow information, you can better understand where your monthly payment goes and prepare for potential adjustments.
If you’re considering buying or refinancing a home, talking with a mortgage professional can help you understand how escrow and other costs may affect your overall financing.
