Dangers of Escrow Accounts and How to Avoid Them by Partnering with the Right Broker

Dangers of Escrow Accounts and How to Avoid Them by Partnering with the Right Broker

  • Alex Nahle
  • 10/22/21

Are you planning to look at Pasadena houses in the next few months in the hopes of buying a new home? Depending on the type of mortgage you qualify for and the lender you use, you may be required to establish an escrow account at the time of closing. Others opt to establish an escrow account even if they are not required to do so. 

If buying a home is on your agenda this year, here’s everything you need to know about escrow accounts.

What are Escrow Accounts?

Escrow accounts, often referred to as impound accounts, are accounts that your mortgage lender will use to pay expenses that are related to your home such as property taxes, homeowner’s insurance, and homeowner association dues. When you close on Pasadena real estate, you will usually pay a few months’ worth of these fees into your escrow account. These are then rolled into your monthly mortgage payment and your lender will direct the individual payments to where they need to go. 

Escrow accounts were put into place to protect the lender from natural disasters or unpaid taxes that could lead to the loss of the asset (your home) as well as to protect the buyer and the obligations of owning a house.

Who is Required to Have an Escrow Account?

Escrow accounts are recommended for those with lower credit scores or who are otherwise at risk for defaulting on their loan. In some cases, escrow accounts are mandatory. 

The following scenarios will require you to have an escrow account:

  • If your loan requires private mortgage insurance (PMI). Those with conventional loans on Pasadena houses and who cannot put 20% down will be required to get private mortgage insurance and will then need to have an escrow account.

  • If you have poor credit. If you have a lower credit score or poor credit history and lenders charge you higher mortgage interest rates to cover the risk of the loan, an escrow account will be mandatory for a minimum of five years.

  • If you have a cash-out refinance and are paying delinquent taxes. If you are more than 60 days behind on paying property taxes on your Pasadena real estate, you will need to have an escrow account established to pay for future property taxes.

  • You have a USDA loan. USDA loans are backed by the U.S. Department of Agriculture and require an escrow account if the loan amount is above $15,000.

  • Your lender requires it. Some lenders will require you to have an escrow account when you take out mortgages on Pasadena houses. Before you sign up with a lender, make sure to ask them if they require escrow accounts.

  • You are covered if you have a shortfall. Tax assessments and insurance premiums can fluctuate. If you are paying these bills separately, you may inadvertently underpay your bill if you’re not aware of the changes. When you have an escrow account, the servicer will usually cover the difference, then increase your monthly mortgage payment in order for you to pay them back.

What are the Pros of Escrow Accounts?

Escrow accounts were established for a reason. First, they prevent buyers of Pasadena houses from being hit with large lump sum tax bills that can be difficult to pay. Another benefit of escrow accounts is that they are convenient. If you have taxes, insurance, and HOA dues, you can make a single payment with an escrow account instead of writing multiple checks each month. This saves time and can also save money if you forget to send in a check one month and get hit with fines or overdue fees. Preventing late payments also helps your credit score. 

Escrow accounts also protect you both during a real estate transaction when your money is held in a safe place and after you've completed the purchase of your home, as the account will ensure you have the money to pay tax and insurance bills when they come due.

What are the Potential Dangers of Escrow Accounts?

Of course, not everything about escrow accounts is positive. Depending on your situation and the type of person you are, you may find the following to be drawbacks:

  • You don’t have full control of your money. If you enjoy being in control of your own finances, you may not like that your lender is responsible for making your monthly HOA, insurance, and property tax payments.

  • You could lose out on interest earnings. When your funds go into an escrow account, you do not get to keep any interest earned on the funds. If you instead put that money into a high-yield savings account, you could potentially earn some money. There are some states that do require lenders to pay you interest in your escrow balances. Ask your lender if they will pay you interest if they require you to have an escrow account.

  • You may have to make a large upfront payment. When you establish an escrow account to pay for Pasadena houses, you may be required to make a deposit that is equal to several months of insurance premiums, HOA fees, and property taxes. If you’re already struggling with your mortgage closing costs, this can make your financial situation even worse.

  • They can be difficult to close. Once established, it might be tough to get rid of your escrow account when you no longer need it. Talk to your lender about what this process looks like so you can close your account in the future if you decide this is the best course of action.

Escrow accounts can be a new homeowner’s best friend or a major inconvenience. To make sure you understand all you need to know about escrow accounts, work with an experienced Pasadena real estate agent who can explain how they will affect you when you close on your home. 

Ready to start the home-buying process? Reach out to one of the professional agents at The Nahle Group for guidance.



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