An escrow account is a holding account managed by your mortgage servicer to pay property taxes and homeowners insurance on your behalf. Each month, you pay 1/12th of your annual taxes and insurance into escrow along with your mortgage payment. When bills come due, the servicer pays them from these accumulated funds. This protects both you and the lender by ensuring these critical bills get paid.
How Escrow Accounts Work
Your mortgage servicer collects escrow funds monthly and pays your bills when due.
Monthly Payment Breakdown
Your total mortgage payment includes:
| Component | Description |
|---|---|
| Principal | Reduces loan balance |
| Interest | Lender’s profit |
| Escrow (Taxes) | Property tax portion |
| Escrow (Insurance) | Homeowners insurance portion |
| PMI/MIP | Mortgage insurance (if applicable) |
Example Monthly Payment
$350,000 loan at 6.5%, $4,200 annual taxes, $1,800 annual insurance:
| Component | Monthly Amount |
|---|---|
| Principal & Interest | $2,212 |
| Property Taxes | $350 |
| Homeowners Insurance | $150 |
| PMI (10% down) | $175 |
| Total Payment | $2,887 |
Of your $2,887 payment, $500 goes into escrow each month for taxes and insurance.
Annual Escrow Cycle
January-June: Escrow balance builds up
July: Property taxes due in many areas—large withdrawal from escrow
October: Homeowners insurance renewal—withdrawal for annual premium
December: Escrow analysis performed, adjustments made for next year
What Escrow Pays For
Always Included
Property taxes: County/city taxes on your home’s assessed value
Homeowners insurance: Dwelling coverage protecting against fire, storms and other perils
Sometimes Included
Flood insurance: Required if you’re in a FEMA-designated flood zone
Mortgage insurance: PMI or MIP payments (may be escrowed or billed separately)
HOA fees: Rarely escrowed—usually paid directly by homeowner
Never Included
- Utilities
- Maintenance costs
- Home warranty
- Umbrella insurance
- Lawn care or pest control
Why Lenders Require Escrow
Lenders require escrow to protect their investment.
Lender Protection
Unpaid taxes: If you don’t pay property taxes, the county can place a tax lien that supersedes the mortgage. The lender could lose their collateral.
Lapsed insurance: If your house burns down with no insurance, the lender has a loan secured by a destroyed asset.
Borrower Protection
Forced budgeting: Spreading large bills across 12 months prevents payment shock.
No missed payments: The servicer pays on time, avoiding late fees and coverage lapses.
Simplified management: One payment covers everything mortgage-related.
Escrow Requirements by Loan Type
| Loan Type | Escrow Required? |
|---|---|
| FHA | Yes, always |
| VA | Yes, typically |
| USDA | Yes, always |
| Conventional (< 20% down) | Yes, usually |
| Conventional (≥ 20% down) | Often waivable |
Waiving Escrow
Some borrowers prefer to pay taxes and insurance directly. You may waive escrow if:
- You have 20%+ equity
- Your lender allows it
- You pay a fee (typically 0.25% of loan) or accept higher rate
- You prove financial responsibility
Pros of waiving escrow:
- Control your own money
- Earn interest on funds until bills due
- Pay insurance annually for potential discount
Cons of waiving escrow:
- Large lump-sum payments
- Risk of forgetting and incurring penalties
- Lender may force escrow if you miss a payment
Escrow Analysis: Annual Review
Your servicer analyzes your escrow account annually to ensure adequate funds.
What the Analysis Checks
- Actual disbursements: What was paid for taxes and insurance
- Projected costs: Expected bills for coming year
- Current balance: Money in the account
- Cushion requirement: Typically 2 months of escrow payments
Analysis Outcomes
Surplus: Your escrow has too much money
- If over $50, servicer refunds the excess
- Your payment may decrease slightly
Shortage: Not enough money in escrow
- You must pay the shortage
- Can pay lump sum or spread over 12 months
- Your payment increases
Deficiency: Escrow balance went negative
- Servicer covered bills from their funds
- You must repay the deficiency
- Payment increases until repaid
Example Escrow Shortage
Scenario: Property taxes increased $600 for the year
- Monthly escrow increase needed: $50
- Shortage from underpayment: $300
- Shortage spread over 12 months: $25
- Total payment increase: $75/month
After 12 months, payment drops by $25 (shortage paid off) but stays $50 higher for increased taxes.
Managing Escrow Shortages
Shortages happen. Here’s how to handle them.
Why Shortages Occur
Property tax increases: Reassessment raises your tax bill
Insurance premium increases: Rate hikes or coverage changes
Initial escrow estimate too low: Servicer underestimated at closing
Timing issues: Bills came due before enough accumulated
Your Options
Pay shortage in full: Write a check for the shortage amount. Your monthly payment only increases by the adjusted escrow amount.
Spread over 12 months: The shortage is divided into 12 payments added to your monthly payment.
Combination: Pay part now, spread the rest.
Preventing Future Shortages
Monitor tax assessments: Appeal if your assessed value seems too high
Shop insurance annually: Get quotes to avoid overpaying
Maintain cushion: Don’t request surplus refunds—let the cushion build
Escrow at Closing
When you buy a home, you fund your escrow account at closing.
Initial Escrow Deposits
| Item | Typical Collection |
|---|---|
| Property taxes | 2-6 months |
| Homeowners insurance | 14-15 months |
| Flood insurance (if required) | 14-15 months |
Why So Much for Insurance?
Lenders collect the first year’s premium upfront, plus 2-3 months cushion. This ensures:
- Year 1 premium is paid in full
- Buffer exists for renewal increases
Example Initial Escrow
$4,200 annual taxes, $1,800 annual insurance, closing in March:
| Item | Calculation | Amount |
|---|---|---|
| Property taxes | 4 months × $350 | $1,400 |
| Insurance (year 1) | 12 months × $150 | $1,800 |
| Insurance cushion | 2 months × $150 | $300 |
| Total Initial Escrow | $3,500 |
This $3,500 is part of your closing costs.
Escrow Refund After Payoff
When you pay off your mortgage, any remaining escrow balance is refunded.
Refund Timeline
Federal law requires refund within 20 business days of payoff.
What to Expect
The refund includes:
- Remaining escrow balance
- Any surplus from last analysis
Example: You pay off your mortgage in August. Your escrow balance is $2,100. You receive a check for $2,100 within 20 business days.
What You’ll Now Pay Directly
After payoff, you’re responsible for:
- Property taxes (direct to county)
- Homeowners insurance (direct to insurer)
- Flood insurance (if applicable)
Set reminders—these are now your responsibility.
Common Escrow Questions
Can I lower my escrow payment?
Not directly. Escrow is based on actual tax and insurance costs. To lower it:
- Appeal your property tax assessment
- Shop for cheaper homeowners insurance
- Request flood zone remapping if applicable
What if my taxes go down?
Your next escrow analysis will show a surplus. You’ll receive a refund if over $50, and your monthly payment will decrease.
Why did my payment increase if my rate is fixed?
Fixed-rate means your principal and interest don’t change. But escrow amounts change with tax and insurance costs. Most payment increases on fixed-rate mortgages are due to escrow changes.
Can I change insurance companies mid-year?
Yes. Notify your servicer of the new policy. They’ll pay the new insurer from escrow and may refund any unused premium from the old policy.
What happens if my servicer pays late?
If your servicer fails to pay taxes or insurance on time and you incur penalties, they’re responsible for those penalties—not you. Document everything and file a complaint if needed.
Escrow vs. Paying Directly: Comparison
| Factor | Escrow | Pay Directly |
|---|---|---|
| Monthly payment | Higher (includes escrow) | Lower (P&I only) |
| Large payments | Spread across year | Lump sums when due |
| Control | Servicer manages | You manage |
| Interest earned | None | Your money earns interest |
| Risk of missing | Very low | Depends on your diligence |
| Availability | Most loans | 20%+ equity typically |
Frequently Asked Questions
What is an escrow account on a mortgage?
An escrow account holds funds collected monthly from your mortgage payment to pay property taxes and homeowners insurance when due. Your servicer manages the account and makes payments on your behalf.
Why did my escrow payment increase?
Escrow increases when your property taxes or insurance premiums rise. Your servicer performs annual analysis and adjusts your payment to cover projected costs plus maintain a cushion.
Can I get my escrow money back?
If you have a surplus over $50 after annual analysis, the servicer refunds it. When you pay off your mortgage, you receive the full remaining escrow balance within 20 days.
Do I have a choice about escrow?
Depends on your loan type and equity. FHA, VA and USDA require escrow. Conventional loans with less than 20% down typically require it. With 20%+ equity, you may waive escrow for a fee.
Is escrow money mine?
Yes. It’s your money held in trust to pay your bills. You don’t earn interest on it (in most states), but it’s refundable if you overpay or pay off your loan.
How much escrow do I need at closing?
Typically 2-6 months of property taxes plus 12-14 months of insurance. The exact amount depends on when taxes are due and closing date. Expect $2,000-$5,000 for most properties.
Lisa Rodriguez
HUD-Certified Housing Counselor
Our team of mortgage experts provides accurate, up-to-date information to help you make informed decisions about your home financing.
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