Mortgage 101: What is Escrow?
If you’ve ever heard the word “escrow”, you probably know that it has something to do with real estate. But what, exactly, is escrow, and what does it have to do with buying or owning a home?
By definition, escrow is a legal arrangement wherein a third party holds a sum of money or property until specific conditions are met. Escrow can come into play both during the home buying process and—depending on the mortgage you have—throughout the repayment of your loan. During the purchase of a home, escrow is used to ensure that funds go to the right parties according to the terms of the contract. While you’re repaying your loan, an escrow account can also set aside funds for insurance and taxes.
Escrow during the home buying process
When purchasing a home, escrow acts as a safeguard for both you and the seller. Third parties manage escrow accounts and ensure that buyers and sellers meet all conditions of the contract before the property—and funds—change hands. An escrow account also holds your “good faith” deposit, which is usually a small percentage of the home’s purchase price. If you walk away from the purchase of a home after making an offer, or if you otherwise breach the contract, the “good faith” deposit typically goes to the seller.
Escrow accounts for home owners
Once you’ve purchased your home, you’ll likely have an escrow account associated with your mortgage. Each monthly payment that you make will include funds that go into an escrow account. The funds in this account are eventually used to pay property taxes and premiums for homeowners insurance and private mortgage insurance (PMI), if required.
It’s also worth nothing what escrow doesn’t include. If your home is within a community governed by a homeowners association (HOA), they might charge you a fee to cover upkeep of common areas and amenities such as playgrounds and neighborhood pools. Mortgage payments rarely include these fees, meaning they aren’t set aside in your escrow account. Before making an offer on a home, find out how much the HOA charges and whether you’re required to pay monthly, quarterly, or annually. Factor this into the cost of the home to make sure it’s truly within your budget. Not sure how much home you can afford? Start by getting pre-qualified for a mortgage today!
When escrow is required
Not all loans require escrow accounts, giving some homeowners the ability to pay their taxes and insurance premiums in large lump sums instead of contributing smaller amounts toward the premiums each month. Most homeowners, however, must pay into their escrow accounts each month—FHA loans, for instance, require escrow.
Escrow, like many things relating to homeownership, can be a bit confusing. That’s exactly why our Mortgage Specialists are available to answer questions and provide guidance throughout the entire home buying process. Find a MIDFLORIDA Mortgage Specialist near you to get started on your journey toward becoming a new homeowner!