Homeowners Insurance Escrow: Definition, How It Works

  • An escrow account is operated by your lender and holds your property tax and insurance payments.
  • Escrow accounts are usually required by your lender if you have a mortgage.
  • It’s a good idea to keep your homeowners insurance even after you’ve paid off your mortgage.

Buying a home for the first time can be both exciting and overwhelming. It’s probably the biggest purchase of your life, and there’s a lot to learn along the way. Every step of the process – from getting financing to finding the right spot, to making an offer and closing the deal – is unknown.

One thing that may be new to you is the concept of an escrow account. If you are taking out a mortgage, your lender will likely require you to have one to ensure you have enough money to cover the related costs, including

insurance for homeowners

What is a homeowner escrow account?

Your broker will usually set up an escrow account for you with your lender upon closing. It’s a separate bank account into which your mortgage, property taxes, and insurance payments are consolidated, including your

insurance for homeowners

premiums. With an escrow account, your payments are deposited into one account, so you don’t have to worry about paying several bills per month. It also guarantees that you will have enough money to cover your homeowners insurance and property tax lump sum payments when they are due.

Most lenders require an escrow account. For example, if you have a Federal Housing Administration (FHA) or United States Department of Agriculture (USDA) mortgage, you must set up an escrow account. However, you only need an escrow account for a conventional mortgage if you earn less than 20%


† As for VA mortgages, many VA lenders need them, but not all.

The amount you pay into your escrow account each month depends on the cumulative annual cost of your mortgage, property taxes, and insurance premiums. You calculate your monthly escrow payments by adding up your expenses and dividing the amount by 12. However, many lenders may require an escrow cushion, an excess over your mortgage payments, to make sure you have enough money. However, according to the Consumer Financial Protection Bureau (CFPB), the cushion should not exceed two monthly escrow payments.

Homeowners Insurance Escrow Account Pros and Cons

While an escrow account can be beneficial for homeowners, it also has several drawbacks. If you have the option of using one or not, it’s essential to consider whether a homeowners escrow account is right for you, as it can be a challenge to get rid of if you change your mind, Dan says. Belcher, CEO of Mortgage Relief.

The benefits of an escrow account come down to whether you want to be more hands-off when it comes to your monthly payments or whether you value brokerage over your account.

5 Steps to Set Up a Homeowner Escrow Account

There are instances where you can opt out of an escrow account with your lender. Keep in mind that you are responsible for paying your expenses on time, often in a lump sum rather than monthly installments.

The benefit of using an escrow account to pay for your homeowner’s insurance is that you know you can rest assured that payments will be made,” said Maria Townsend, a licensed insurance broker in North Carolina and CEO of Insured Stash, an educational platform for insurance.” But consumers can also pay annually without escrow, if they have a substantial amount for their down payment on their property.”

How to set up an escrow account yourself:

Step 1: Check your total insurance bill and tax bill for the year

Verifying your total annual bill determines how much you need to deposit into your escrow account each month. Insurers may ask you to pay quarterly or semi-annually instead of annually. Please contact yours to determine the exact amount to pay and when your payments are due. Likewise, you’ll want to check with your local tax collector for payment dates and amounts. You may be required to pay quarterly, six months, or annually.

Step 2: Calculate your monthly payments

Add your annual insurance premiums and property taxes and divide the amount by 12. This amount is how much you pay into the escrow account each month. Because property taxes and insurance rates can fluctuate, you may want to include a cushion to avoid shortfalls. This way you can avoid late fees and fines.

Step 3: Open an account

Contact private banks and

mortgage lenders

to inquire about options for escrow accounts. Have your details and information from other parties requesting the account ready. Alternatively, you can put your monthly property taxes and insurance payments into a high-yield savings account to earn a higher interest rate on your money.

Step 4: Automate Deposits and Withdrawals

Like an escrow account managed by your lender, it’s a good idea to automate your deposits to make sure you have enough money in your account. Likewise, you should automate your withdrawals from your account to your insurance company and tax authorities so that you don’t default on your payments and avoid late fees. Keep in mind that if you create an escrow account with a bank, your bank will manage the payments for you, but may charge you for that service.

Step 5: Adjust your escrow or bank account all year round

Be sure to monitor your account to reflect any changes during the year. Property taxes and insurance premiums fluctuate and you want to make sure you have enough to pay your bill.

Should You Keep Your Homeowners Insurance After You Pay Off Your Mortgage?

Although it’s not required by law, it’s a good idea to keep your homeowners insurance after you’ve paid off your mortgage, Townsend says. Home insurance protects your home and personal property against damage. It can also protect you from liability if someone is injured on your property.

The last thing you want is an unexpected home-related loss and not being able to afford replacements. Insurance is there to prepare you for the worst and to alleviate the financial hardship of a home-related loss, especially if you live in a high-risk area.

How To Change Your Homeowners Insurance With Escrow

If you want to switch to a different homeowners insurer when making payments through an escrow account, it’s important to update your mortgage lender with the new information.

After comparing quotes and making the switch, submit the information about the lender’s mortgage clause to your new insurance company, and their insurance advisor will send the proof of insurance, Townsend says.

It usually costs nothing to change your homeowners insurance policy, but the insurance company may charge a cancellation fee if you decide to suspend your policy. Also, be aware of any shortfalls or overruns in your monthly payments during the time of the switch, as your monthly mortgage payments may change.

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