When it’s time to take out a mortgage loan for your new home or property, your lender is likely to add the insurance premium and property taxes to your mortgage payment. In the process, the lender sets that money aside to make sure both are paid in a timely fashion. It’s in the lender’s interest to provide this service, as it protects them from uninsured losses you incur if you can’t cover them, as well as tax liens that may crop up. As time goes on, your mortgage lender may cover any cost discrepancies temporarily—when, for example taxes or insurance premiums go up—until they can adjust your monthly payment.
Escrow accounts ensure that you don’t get hit with a bill for thousands of dollars to cover your property taxes for the year and that your insurance stays up to date. And all of that happens seamlessly, within a single, monthly payment. So for many borrowers, it’s convenient to have an escrow account with their lender. Some lenders may even offer a lower interest rate for those who set up an escrow account, which can mean significant savings for you over the life of your mortgage loan.
Differing lender policies on escrow
Lenders differ when it comes to escrow, and it’s worth your while to find out where your lender stands. In some cases, you may be able to avoid escrow by paying your own property taxes and home insurance premiums out of pocket. Whether that’s an avenue you wish to explore is up to you and dependent upon your loan-to-value ratio. If that value is below 80 percent, or you can put more than 20 percent down on your home, your lender may be open to you paying those fees out of pocket. However, as your lender is incurring additional risk, they may increase your interest rate.
Skipping escrow appeals to some buyers
Some buyers wish to skip escrow, and if you have locked in at an amazing mortgage rate, it might be a good option for you. If your lender is not legally obligated to pay homeowners interest on the amount in their escrow accounts, you could be free to skip escrow and instead invest that cash. Some borrowers opt for this path, knowing they can earn a return on their money by investing it elsewhere, while also knowing their mortgage loan payment stays the same every month—as it isn’t subject to fluctuating premiums and property tax rates.
It’s important to note that if you forgo an escrow account, you could unknowingly experience a jump in your property taxes or insurance premiums with an associated expense you don’t expect at the end of the year.
To escrow, or not to escrow? That is the question.
The window of opportunity to avoid escrow closes quickly, and once that requirement is in place, it can be hard to convince a lender to cancel it. Loans are frequently sold, and your lending agreement won’t likely allow for that escrow requirement to be cancelled. On occasion a borrower who can show proof of on-time payments every month and has substantial equity in the home may be able to get rid of their escrow account. The bottom line? Do your research ahead of time, know how much you can put down on the home at closing, and understand your lender’s policies. Armed with that information, you can make a wise decision about whether to escrow property tax and insurance, or pay out of pocket.