What Is A Mortgage Escrow

Mortgage escrow is when a mortgaged homeowner sends 1/12 of its annual real estate tax bill and hazard insurance premium to its mortgage lender each month along with the regularly scheduled mortgage payment. The lender collects mortgage escrow payments monthly, then distributes them to the homeowner’s county assessor and insurance company semi-annually, respectively, when the payments come due. Homeowners choosing to use mortgage escrow can often receive a mortgage rate discount of 12.5 basis points (0.125%).

Your Monthly Mortgage Payment

When you own a home, your fiscal responsibility goes deeper than just making monthly principal + interest payments to the bank. Real estate taxes and homeowners insurance are due, too.

Principal and interest payments are typically due monthly to your lender; real estate taxes are due to your local taxing authority; and homeowners insurance is due to your insurer.

Depending on how you manage these four parts, your lender may lower your mortgage rate for you. Read on to learn more.

What Is PITI?

When a mortgage lender is trying to determine your ability to repay, one area at which it looks is your total monthly housing payment.

Your total monthly housing is calculated as follows :

  • Your monthly mortgage principal payment
  • Your monthly mortgage interest payment
  • Your annual real estate tax bill, pro-rated to a monthly figure
  • Your annual homeowners insurance bill, pro-rated to a monthly figure

Collectively, these elements — principal, interest, taxes, insurance — are known as PITI.

PITI is pronounced “pee-eye-tee-eye” and for rate-shopping home buyers, it can vary from day-to-day, and from home-to-home. This is because mortgage rates change daily, which change a home’s principal + interest payment, and because every home’s tax bill and insurance bill are different.

A home in storm-heavy Miami, Florida, for example, will typically cost more to insure than a home in Columbus, Ohio. The same is true for a home in the San Francisco Bay Area which may be more susceptible to natural disaster than a home in Denver, Colorado.

Similarly, homes in newly-built areas may require a higher tax bill as infrastructures get built, raising the monthly PITI as compared to homes in more mature neighborhoods.

Many mortgage programs such as the FHA Streamline Refinance and various VA home loans require monthly pro-rated tax and insurance bills to be included within the monthly mortgage payment, a loan trait known as “escrowing” taxes and insurance.

Find Your Monthly Escrow Payment

Escrows are a part of your mortgage payment and you’ll want to know your obligation. It’s best to use a calculator because, although the math is simple, you want to make sure you get it right.

First, find your home’s real estate tax bill(s), noting that in some areas, you may receive statements from multiple different taxing authorities. Find the sum of these statements and add to it your annual hazard insurance premium.

If you are a home buyer and don’t know what your hazard insurance premium will be, estimate 1% of the purchase price. This will yield an estimate which is likely larger than your actual premium, but when building a budget, it’s often better to estimate on the high-side.

Next, divide your sum by the 12 months in a year.

As an example, a Bucks County, Pennsylvania home with a $8,400 annual tax bill and a $1,200 insurance policy will pay $9,600 annually. This yields $800 paid into escrow monthly as part of PITI.

These monies are paid along with the mortgage payment’s principal + interest portion.

Some Homeowners Prefer To “Waive Escrows”

Not all mortgages will require a homeowner to escrow.

Specifically, mortgages via Fannie Mae or Freddie Mac for which there is at least 20% equity will often allow self-management of a homeowner’s annual tax and insurance obligations.

Asking to pay your own taxes and insurance is known as “waiving escrow”.

Not surprisingly, mortgage servicers prefer that homeowners escrow for taxes and insurance. This is because when escrows are waived, it introduces two major lender risks:

  1. A home’s real estate taxes may go unpaid, go delinquent, and get sold to a third-party
  2. A home’s insurance coverage may lapse, and major damage is somehow sustained

These two scenarios are avoidable for loans with escrows; when the full PITI is paid to the lender monthly.

For this reason, homeowners choosing to waive escrows may sometimes be denied access to the same low rates as their tax-and-insurance escrowing peers. The “fee” to waive escrows can raise your mortgage rate by as much as 0.25 percentage points.

This article originally appeared on TheMortgageReports.com