If you have ever bought a home or plan to in the near future, real estate taxes and hazard insurance are necessary carrying costs you incur as a homeowner. There are two sides to every coin when electing to have these expenses rolled in your mortgage payment. Here are the facts on mortgage escrow accounts…
Quick Low Down
When you own real estate, you’re responsible for paying property taxes and hazard insurance. These costs can be paid for separately by you, or can be paid for within your monthly mortgage payment, assigning payment responsibility to your lender, removing the need to budget for these housing liabilities.
Generally, when you buy house with less than 20% down it will be a lending requirement to have taxes and insurance built into your monthly mortgage payment. Same rule would apply when you refinance your home with less than 20% equity as well.
When you are working with less than 20% equity, or perhaps you might have more than 20% equity and you simply just choose to have taxes and insurance built-in your payment, creating an impound account increases your cash to close. The lender has to account for future months of property taxes and fire insurance that are not yet due, effectively building a savings account, a slush fund if you will, in which property tax and insurance payments are paid from. Real estate taxes are due twice per year, with installments due in December and April. Hazard insurance is due based on however frequent your policy states, usually annual or biannually. The biggest factor in the creation of the escrow account is for the collection of the real estate taxes, as the real estate taxes far outweigh in terms of dollars what any insurance premium is. The lender collects for monies at closing, building the reserve account for future payments of taxes and insurance. As you make loan payments over time, a portion of each payment goes towards crediting the escrow account balance with the lender. This escrow balance grows and accumulates in order for there to be enough monies to pay the taxes and insurance.
Your cash to close due at closing will be bigger when establishing an escrow account. Estimating at six months of taxes and insurance is a healthy barometer to use when determining how many extra dollars will be due in closing. In actuality lenders will collect for different amounts of taxes and insurance based on whatever time of the year your closing is taking place. For example let’s say you’re buying a home at $475,000, real estate taxes based on 1.25% of the purchase price would calculate to $5,937.50. This figure breaks down to $494.79 per month. Let’s say you’re hazard insurance premium is $780 per year, $65 per month. Taking six months of taxes and insurance, that’s $3,358.74 due at closing in the establishment of the escrow account.
Taxes and insurance are reoccurring closing costs meaning they re-occur each month as an ongoing housing expense. Non-reoccurring closing costs are the one time fees you pay closing independent from taxes and insurance such as processing fee, or a loan origination fee for example, title fees also fall into this category. The challenge consumers sometimes face is that these impound account monies can make it appear as though their closing costs are much higher when that’s not the case, but rather for the establishment of the escrow account.
What to Know When Opting for Getting an Escrow Account
Qualifying Remains Unchanged –if you elect to not have taxes and insurance built in your mortgage, how the lender qualifies you remains unchanged. The mortgage company is going to have to take into consideration the mortgage payment, taxes and insurance, as well as your other credit obligations against your income in determining your ability to repay.
Rates & Fees Remain Unchanged-when you elect to have taxes and insurance built into your mortgage payment, expect no pricing perk on conventional and government mortgage types. With the exception of Jumbo Loans that offer small pricing benefit usually of about .125% of the loan amount, there is generally, no additional benefit to having the taxes and insurance built into your mortgage payment other than convenience.
A ‘Wash’ When Refinancing- when you refinance a mortgage that contains an escrow account, in almost every instance, you’ll be receiving a monies back from whatever amount is left over from the escrow account reflected within most recent loan pay off. Expect this refund check within 30 days after closing. If you’re new loan is established with an impound account, these will due at closing in the form of cash or can be financed into the loan amount. Knowing monies from the refinanced lender are coming within 30 days, makes any establishment of an escrow account a wash.
Dropping An Impound Account -getting rid of your impound account can usually accomplished once you accumulate 20% equity whether refinancing or not. Remember if you have 20% equity, it is a choice to have or not have a mortgage loan escrow/impound account for the payment of taxes and insurance.
Annualized Escrow Re-balancing- each year your servicer will perform an escrow analysis to make sure the escrow account monies do not have a shortage or an overage in the account. If there is a shortage based on for example your property tax basis changing, or a change to your fire insurance policy, they will contact you to collect the shortage difference. Additionally, your payment could rise by the amount of shortage. If there is an overage in the account, meaning the lender has over collected, they would refund the difference.
If you are undecided, and are working with 20% equity, plan on going the direction that allows you to most comfortably plan for the mortgage with your other household living expenses. For some that means not worrying about it and having the taxes and insurance built-in to the mortgage payment. For others, it’s having more choice and control over their money. First time buyers especially, would be probably better served having the taxes and the insurance built into their mortgage payment to help acclimate themselves with a new housing payment.
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