What You Need to Know About Homeowners Insurance Escrow
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Escrow is money, property or a written document (such as a bond) delivered or held by a third party, pending the fulfillment of an agreement. Banks and lenders use escrow accounts to make sure borrowers have homeowners insurance and the means to pay for it.
A home is a big investment. Most people cannot afford to buy one outright with cash and instead pay in installments through a mortgage with a bank or lender. To protect their interest in the home, banks and lenders require people to have homeowners insurance. And to make sure, they use an escrow account.
How homeowners insurance escrow works
Your bank or lender creates the escrow account when you sign your mortgage agreement and manages the account. This may not happen for all homeowners though. It largely depends on your bank and your financials. For example, Wells Fargo offers this service. It can be a convenient feature, because all of your bills are consolidated into one monthly payment.
You pay a lump sum each month to the escrow account, and your mortgage lender puts the money toward your mortgage payment and pays your insurance premiums directly. The components of this payment (mortgage principal, interest, property taxes and insurance) are often referred to as "PITI."
The data to determine your total payment usually comes from the tax authority in your state, your homeowners insurance company and the bank itself through the mortgage it provides. This way, the banks and lenders know the premium is paid and the home is insured. Since rates change, at the end of the year, if you paid too much, your bank or lender will refund your money.
What if my lender didn't pay my insurance company on time?
Even if you paid your premium on time to your mortgage lender, mistakes can happen. If you get a notice from your insurance company that your premium wasn't paid, contact your mortgage company immediately. Section 6 of the Real Estate Settlement Procedures Act (RESPA) requires that mortgage lenders make escrow account payments on time. If they fail to do so, a borrower can file a lawsuit against them.
Suppose your lender does not resolve a payment issue. In that case, you can file a complaint with the U.S. Department of Housing and Urban Development (HUD), the Consumer Financial Protection Bureau or your state attorney general's office. You might want to speak to an attorney also
Will my escrow payment decrease if my home insurance premium goes down?
If you renew your home insurance policy and the cost goes down, notify your mortgage lender. A lower homeowners insurance premium doesn't necessarily mean your escrow payment will decrease. Even if your insurance cost goes down, your mortgage payment or property taxes might independently increase and offset the lower premium.
For example, say you are making a monthly payment of $2,000 for your mortgage plus $200 for insurance (a total of $2,200) to an escrow account. If your monthly premium goes down $25 but your mortgage goes up to $50, you would owe $2,225 per month. So, even if your insurance goes down, that doesn't guarantee your escrow payment will.
Should I keep my home insurance after I pay off my mortgage?
Yes, you should absolutely keep your homeowners insurance policy after you've paid off your mortgage. Most mortgage lenders require it for a reason, and that same reason applies to you: Homeowners insurance protects your home and the personal property you've invested in over the course of the mortgage.
Say you pay off your mortgage and own a $200,000 home outright. If you don't have insurance and the home is destroyed by a fire, you can consider that $200,000 gone. If that same home were insured, you would use the payout to put a roof over your head.
Don't forget that homeowners insurance also covers more than the home itself and personal belongings. It also includes liability and additional living expenses (ALE) coverage. Even if you have paid off your home, both are important, to protect yourself in a lawsuit and cover temporary accommodations, respectively.
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