Escrow: What It Is and How It Works

To “escrow” funds in real estate means to place funds in the hands of a third party by means of a legal agreement until certain conditions have been met. In real estate, escrow is used in two different ways.

In a home purchase, an escrow account is used to protect deposit monies until the fulfillment of the terms of a purchase contract. The earnest money deposit is held in an escrow account until closing, at which time it will be applied to the down payment for the buyer. If the sale were to fail because of buyer default, the down payment funds are likely going to be released from the escrow account to the seller as damages. Sometimes an escrow account will retain some funds after closing until certain conditions are met by buyer or seller.

In lending, escrow accounts are used to hold funds for payment of taxes and insurance by the borrower. Some low-down-payment loans require escrow accounts to ensure payment of these obligations, while some borrowers simply prefer to pay into these accounts on a monthly basis to insure timely payment when due. The lender will incorporate the projected taxes and insurance into your monthly payment and, when received, will set the required amounts aside in your escrow account. The taxes and insurance amounts will adjust when tax assessments and insurance rates change. Escrow accounts do not contain funds for HOA dues or supplemental taxes.

Escrow accounts can be managed by escrow companies, escrow agents or mortgage servicers. The disadvantages of escrow accounts will be higher monthly payments and occasional incorrect estimates of what needs to be held in escrow, resulting in fluctuating monthly mortgage payments.

Call or email me, and I will show you your loan options and determine if having taxes and insurance escrowed is right for you.