Should I Escrow My Taxes and Insurance
The word “escrow” has several different meanings, many of the pertaining to real estate and other financial transactions. In this instance, we will be discussing “escrow” as the process of allowing the lender or a third party keep part of your monthly payment in an account and then use the money accumulated in that account to pay your tax bills when they become due (school taxes, municipal taxes) and homeowner’s insurance. To determine what your monthly mortgage payment will be with an escrow account, simply add the total yearly property taxes, one year’s homeowner’s insurance premium and your monthly principal and interest together and divide by 12.
The Option of Escrowing Your Taxes and Insurance
Most conforming lenders assume you will be escrowing your taxes and insurance to avoid a large tax bill and keep your monthly payments more uniform However, you are almost always given the option of waiving the escrow account and paying the taxes and insurance directly when they become due. Many savvy investors make it a rule not to escrow their taxes and insurance and instead invest that money in an account (stocks, bonds, mutual funds) that will earn interest for them. However, the majority of homeowners would rather not bother with that and instead prefer the convenience of a set, predictable payment every month. Also, escrow waivers typically carry a very small increase in the interest rate with conforming loans.
Subprime Lenders and Escrowing
Subprime lenders, however, operate differently. Almost all subprime lenders do not charge extra if you decide not to escrow your taxes or insurance. Many people speculate that these lenders to that in order to give borrowers the impression of a lower monthly payment. BEWARE! Many subprime borrowers are shocked when they receive a tax bill for several thousand dollars. These borrowers probably assumed that their monthly mortgage payment included taxes and insurance. I recommend that almost all borrowers, especially those that have had financial difficulty in the past, to escrow their taxes and insurance so that their monthly payment is as steady as possible.
Escrowing Could Add to Your Closing Costs
Make sure you tell your broker or lender that you would like to escrow your taxes and insurance before you are at the closing table! Most lenders require a few months’ “cushion” so that there is enough money in the account to pay the bills when they become due. Depending on what time of the year you close your loan, this could add thousands to your closing costs, but you will be glad you did it. If you are in the market for a subprime loan, the last thing you need is to receive a huge tax bill unexpectedly!
