How to Address an Escrow Account Shortage or Overage
Once you’ve completed the mortgage process, you might assume that your monthly payment is set in stone for your loan term. While this is true for your principal and interest (on a fixed-rate loan), your taxes and insurance might change with time. If this happens, it may result in an escrow account shortage or overage.
Let’s clarify how an escrow account works, what may cause an escrow account shortage or overage, and what you can do if this happens to your account.
What is an escrow account?
An escrow account is a bank account used to fund the payment of property taxes and insurance on a home. An escrow account simplifies the mortgage repayment process for the homeowner.
Your monthly mortgage payment covers your principal balance, interest, taxes, and insurance. Rather than paying your property taxes and insurance outright, your mortgage servicer uses the funds in your escrow account to take care of those payments on your behalf.
Escrow accounts are mutually beneficial for you and your lender. It helps you streamline the mortgage repayment process and reduces the risk of potential error or delay in repayment for your lender. We go into further detail in our Beginners Guide to Understanding Escrow Accounts if you’d like to discover more about the purpose and function of an escrow account.
What causes an escrow account shortage?
If your property value increases over time, your property taxes will rise due to that increase, and your homeowner’s insurance premiums may also increase to ensure that your home has the proper coverage. As a result, it’s possible to have a shortage of funds in your escrow account.
If this occurs, there’s no need to worry. As your property taxes rise, your home is worth more than its original purchase price, and rising insurance rates will ensure that your home has the proper coverage to protect your investment as it increases in value.
Here’s an example of how this might play out for a homeowner with a $240K loan:
Loan Amount = 240K
Principal & Interest = $1,304
Taxes = $200
Insurance = $100
Total Monthly Mortgage Payment = $1,604
If property taxes increase by 5% this year, the amount of money in each mortgage payment that goes towards taxes will need to increase by 5% also ($10 per month in this example).
Loan Amount = 240K
Principal & Interest = $1,304
Taxes = $210
Insurance = $100
Total Monthly Mortgage Payment = $1,614
As displayed above, the escrow account will need funding to cover the overage.
What causes an escrow account overage?
An escrow account overage can occur if the property taxes decrease in your area. It’s also possible that you may find a better deal on homeowner’s insurance resulting in a lower monthly rate. You may have more money in your escrow account than is needed in both cases.
What to do if you have an escrow account shortage or overage
Escrow Account Shortage
If you have an escrow account shortage, your mortgage servicer will send you a letter notifying you of the shortage. You will have the option of providing a lump sum to compensate for the shortage, or you can agree to increase your monthly mortgage payment to fund the account.
Escrow Account Overage
Your mortgage servicer will notify you if you have an escrow account overage. You will receive an escrow refund check to reimburse you for the overage, or your mortgage servicer will roll the overage over to cover next year’s payments.
Conclusion
If you receive notification of a shortage or overage in your escrow account, remember that there’s no cause for concern. Your loan officer will ensure your escrow account is well-funded at closing. If you have questions about your escrow account during the life of your loan, we’d be happy to help! Our guidance and support will continue after closing. Contact your loan officer to touch base and get your questions answered.
