Everything You Need To Know About Escrow

Key Takeaways

  • Escrow acts as a safety-net extended to both sides of a transaction until the deal is closed and the subject property officially changes hands.
  • An escrow officer will help facilitate a real estate deal, and make sure everything is on the up and up.
  • An escrow account is absolutely necessary when two strangers are trying to complete a deal with so much on the line.

Escrow accounts have become synonymous with the real estate closing process, but how many people are actually well-versed in their intricacies? For as important as escrow is, I am willing to bet the mere mention of an escrow account conjures up more questions than answers. If the same can be said about you, I urge you to continue reading. Below I will outline what escrow is, not to mention a few of the most commonly asked questions people have about it.

Escrow Definition: What Is Escrow?

In its simplest form, escrow serves as an intermediary between two parties trying to facilitate a real estate transaction. More specifically, it’s a safety-net extended to both sides of a transaction until the deal is closed and the subject property officially changes hands. Outside of trite metaphors, however, escrow is essentially a secure holding position where each side of a real estate transaction may exchange important items (like earnest money and contracts) without fear of malicious intent.

To be clear, escrow isn’t literally a place, but rather a third-party — most likely someone from the closing company, an attorney, or a title company agent. When you are placing important items in escrow, you are giving them to a third-party representative that will hold onto them until predetermined criteria are met. The title officer, as the intermediary is often referred to as, is then tasked with making sure everything proceeds smoothly and ethically — including the transfer of money and documents. That way, you can trust a professional representative with the most important aspects of a real estate transaction, as opposed to a homeowner or buyer you just met.

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Commonly Asked Questions About Escrow In Mortgage

The term escrow has become synonymous with the process of closing a real estate deal, but there’s a great deal of people out there that either have a vague understanding of how escrow accounts actually work or are completely unacquainted with the concept as a whole. Whatever the case may be, there are undoubtedly many questions to be answered. Below you will find some commonly asked questions about escrow in mortgage.

How Does Mortgage Escrow Work?

As I already alluded to, escrow isn’t necessarily a place, but rather a position. When you are placing things in escrow, you are handing them over to an intermediary (an escrow officer) that’s usually someone from the closing company, an attorney, or a title company agent. The exact individual representing your impending transaction may be different, as customs vary by state. Regardless of who represents your escrow, the same rules apply: everything entrusted to the escrow agent will remain protected and in the third-party’s possession until each predetermined condition in the original sales agreement has been met. In other words, money and documents won’t change hands until each side of a transaction has fulfilled their promises.

Picture escrow as a safe; one that each side of a transaction will place their belongings into. Sellers will typically place important documents and contracts in escrow, while buyers will typically place earnest money and other checks inside. In other words, this “safe” will hold the things each side wants out of the deal. It is worth noting, however, that there is no one side that controls the safe; that’s the escrow agent’s job, as they are an unbiased third-party (and the best way to ensure things move ahead smoothly). The only way to “open the safe,” therefore, is to complete a list of predetermined criteria that each side puts forth. That way, only once each side is satisfied with the other’s effort will the safe be opened and the contents distributed to their new owner.

To ensure that each side is complacent, the escrow officer will receive documentation detailing each side’s criteria. And, according to realtor.com, “every time one of those steps is completed, the buyer or seller signs off with a contingency release form; then the transaction moves on to the next step (and one step closer to closing).”

Does Escrow Pay Property Taxes?

In the event your lender set up an escrow account for your mortgage payments, you’ll be able to use said account to pay both your property taxes and homeowners insurance, too, but I digress. Escrow does not pay your property taxes, at least not in the sense many would hope. Instead, your lender will set up an escrow account for you to contribute to monthly. As a result, you can pay your property taxes from an escrow account. In fact, in addition to setting up the escrow account, most lenders will estimate your annual homeowners insurance premium and real estate property taxes. That way, you’ll know exactly how much you owe in property taxes every year, and can proceed to make monthly installments based on the final estimate.

When you pay your mortgage, you can add the additional amount you owe in property taxes and homeowners insurance, and the lender will place it in the escrow account. When enough money has been saved in the account, the money will be taken out and used to pay off the obligations.

It is worth noting, however, that your taxes and insurance premiums will change over time. Do not assume your contributions will remain the same, year in and year out. Be sure to double check the amount you are paying is correct.

Do Escrow Accounts Earn Interest?

There isn’t a bank out there that is required to pay out interest on escrow accounts. Of course, that doesn’t mean there aren’t any that do, but rather that none are required by the U.S. Department of Housing and Urban Development (HUD) to do so.

The answer isn’t a simple yes or no; there are far too many exceptions and rules to break down in a simple article such as this. Just know this: You are more likely to earn interest on an escrow account if you live in Alaska, California, Connecticut, Iowa, Maine, Maryland, Massachusetts, Minnesota, New Hampshire, New York, Oregon, Rhode Island, Utah, Vermont and Wisconsin.

What Do I Do While In Escrow?

First and foremost, consult the escrow agent representing the transaction as soon as possible. The only way you can know how to proceed accordingly will be to follow the rules set forth by the officer put in charge of the account. That said, talk straight to the source, as the key to facilitating a smooth transaction is none other than to understand the specific escrow’s instructions. Namely, ask specifically what it is you can do to expedite the process. In my experience, however, the best thing you can do is to be punctual and prepared. Not only should you have everything you will need, but you should also be able to get it in a moment’s notice.

Escrow account

How To Get Out Of Escrow

The escrow process is typically initiated once an offer on a property has been accepted. In other words, it’s only after a legal contract to purchase the home has been formed between the buyer and seller that the escrow process will get under way. The escrow process is part of a legal contract you have already entered into, so backing out isn’t always going to be possible. That said, there are ways to remove yourself from the escrow process and terminate the impending sale, but they are not always within your own power. Specifically, pre-determined contingencies may be drafted (in accordance with the contract) to terminate the impending sale if certain criteria are not met.

Contingencies are the closest things buyers have to a safety net; they offer a way out of a deal if something is — more or less — out of place. Inspection contingencies, for example, will typically allow buyers to back out of a deal they have already entered into if the inspection comes back with anything unexpected. And contingencies don’t stop there; they can act as a safety net for any number of issues — so long as they were agreed upon at the time of the contract by both the buyer and the seller. All things considered, there are a number of ways to get out of escrow, but they depend on the contingencies set forth at the time the contracts were signed.

How To Change Homeowners Insurance With Escrow

As I already alluded to, your lender will typically set up an escrow account in your name. That way, you can put money into the escrow account for your homeowners insurance and property taxes. According to esurance, “When you make your mortgage payment each month, a certain amount is deposited into your escrow. Your lender then makes payments toward those home-related expenses from your escrow account.”

It is safe to assume a portion of the money you are paying into the escrow account has already been dogeared for a particular insurance company. So if you change your insurance policy while you are using an escrow account, you must notify your lender that is controlling the account. They won’t know to allocate the payments elsewhere unless you notify them of the change.

There are a few important things to consider. For starters, make sure your new policy is in place before you cancel your old one, and familiarize yourself with any penalties you may incur by switching over.

Escrow accounts are no secret; everyone has heard of them. However, I would argue that very few actually know how their intricate details play out. That said, it’s those that fully understand them that stand to maintain the upper hand in a deal. Has this piece helped fill in the blanks with some questions you had about the escrow process? If so, let us know how we helped in the comments below.

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Real Estate Investing Strategies
Real Estate Investing Strategies
Real Estate Investing Strategies
Real Estate Investing Strategies
Real Estate Investing Strategies
Real Estate Investing Strategies