Investopedia defines escrow as: A financial instrument held by a third party on behalf of the other two parties in a transaction. The funds are held by the escrow service until it receives the appropriate written or oral instructions or until obligations have been fulfilled.
In the case of a home purchase, the lender or mortgage holder, takes funds from the buyer to pay taxes and insurance. The funds are “escrowed” until the time they are due when the lender sends payments from the escrow account to the appropriate tax department and/or insurance provider.
Lenders usually require that borrowers pay money monthly into “escrow” so that the lender can pay the real estate tax and property insurance as due.
If you decide to “escrow” your taxes and insurance, at closing you will see on the HUD1 statement that monies have been taken from you to cover the next 12 month’s worth of property insurance and property taxes. That is so the escrow company will have enough money set aside by you to cover the first payment you need to make for your taxes and insurance on the property you are purchasing.
When you see your monthly mortgage statement, you should see a break down of how much is held out of your monthly payment for escrow, or how much of your monthly payment is being put aside toward taxes and insurance. That money is being put into escrow so that, after your first tax and insurance payment is made, more is immediately being held out to build up to what the escrow company will need to make the following year’s payments.
Most lenders make these payments promptly, however, you may find a late or missed payment. Some people don’t like to escrow these monies feeling they’re giving up control and allowing the lender to use the money rather than using it themselves.
The decision is usually left up to you, the borrower, to escrow or not to escrow. If you escrow, you don’t have to pay attention to when taxes and insurance are due as that is handled for you. Also, you don’t have to come up with a large sum of money to pay your tax bill at the end of the year because you have been “saving” it a little bit at a time all year long from that portion of your mortgage payment that is escrowed.
RESPA, or the Real Estate Settlement Procedures Act, was enacted by Congress to prevent abuses involved with real estate. One aspect of RESPA deals with escrow accounts. By law, a lender has the right to require a borrower to deposit money into an escrow account for property taxes and insurance. If you feel that your escrow funds have not been collected or distributed correctly, file your complaint with the state’s attorney general or banking commission.
