What You Need to Know About Homeowners Insurance Escrow
Escrow is money, property, or a written document (such as a bond) delivered or held by a third party while an agreement is being fulfilled. Escrow accounts are used by banks and lenders to ensure that borrowers have homeowners insurance and the means to pay for it. These accounts are frequently used in mergers and acquisitions, court cases, and real estate transactions.
A house is a significant financial investment. Most people can't afford to buy one outright, so they pay for it in installments through a mortgage with a bank or lender to whom they make payments. Banks and lenders require homeowners insurance to protect their interest in the home, and an escrow account is used to ensure compliance.
How homeowners insurance escrow works
The escrow account is established and managed by your bank or lender at the time you sign your mortgage agreement. This may not be the case for all homeowners; it is largely dependent on your bank and your financial situation. Wells Fargo, for example, is one institution that provides this service. It can be a useful feature to have because all of your bills are consolidated into a single monthly payment.
You deposit a lump sum into the escrow account each month, and your mortgage lender applies the funds to your mortgage payment and pays your insurance premiums directly to your insurer. The acronym "PITI" refers to the components of this payment (mortgage principal, interest, property taxes, and insurance).
The data used to calculate your total payment is typically obtained from your state's tax authority, your homeowners insurance company, and the bank itself via the mortgage it provides. This way, banks and lenders are aware that the premium has been paid and that the home is insured. Because interest rates fluctuate, if you paid too much toward any amount owed at the end of the year, your bank or lender will refund your money.
What if my lender didn’t pay my insurer on time?
Even if you paid your mortgage lender's premium on time, mistakes can occur. If your insurance company notifies you that your premium has not been paid, contact your mortgage lender right away. The Real Estate Settlement Procedures Act (RESPA) Section 6 requires mortgage lenders to make escrow account disbursements on time. If they do not, a borrower has the right to sue them under Section 6.
If your lender fails to resolve a payment issue, you can file a complaint with the U.S. Department of Housing and Urban Development (HUD), the Consumer Protection Office, or the Attorney General's Office in your state. You should also consult with an attorney about litigation.
Will my escrow payment decrease if my home insurance premium goes down?
If you renew your homeowners insurance policy and the cost of your premium decreases, notify your mortgage lender. Remember that lower homeowners insurance does not always imply a lower total payment to your escrow account. Even if your homeowners insurance premium decreases, your mortgage payment or property taxes may increase independently, canceling out the lower premium.
- Assume you make a $2,000 monthly mortgage payment and a $200 monthly insurance premium (for a total of $2,200) to an escrow account. If your monthly premium decreases by $25 but your mortgage payment increases by $50, you will owe $2,225 per month. So, even if your premium has decreased, your escrow payment has not necessarily decreased.
Should I keep my home insurance after I pay off my mortgage?
Yes, even after you've paid off your mortgage, you should keep your homeowners insurance policy. Consider this: most mortgage lenders require homeowners insurance for a reason — and the same reason applies to you: homeowners insurance protects your home and personal property that you've invested in over the course of the mortgage.
- Assume you paid off your mortgage and now own a $200,000 home outright. If you don't have homeowners insurance and your home is destroyed by fire, that $200,000 is gone. If that same $200,000 home was insured, you could use the insurance proceeds to replace your roof.
Remember that homeowners insurance covers more than just the house and the homeowner's personal belongings. Home insurance also covers liability and additional living expenses (ALE). Even if you have paid off your mortgage, both coverages are necessary to protect yourself in the event of a lawsuit and to cover temporary housing.