Requirements for Mortgage Escrow Accounts
As a condition of a home mortgage, your lender may require you to set up an escrow account. A portion of your monthly mortgage payment goes into the account and your lender disburses the account proceeds to cover your property tax and insurance. Escrow accounts are subject to both the Real Estate Settlement Procedures Act and Regulation Z -- the Truth in Lending Act.
Your mortgage lender has the right to foreclose on your loan and sell your home if you fall behind on your mortgage payments. However, delinquent property taxes and past-due homeowners insurance premiums must be deducted from the house sale proceeds. In theory, your lender could end up with very little cash if you owe vast sums in back taxes and insurance. Consequently, many lenders require you to place place taxes and insurance in an escrow account. This means your lender can ensure that your taxes and insurance will be paid on time.
Under a 2013 amendment to Regulation Z, lenders must establish escrow accounts for higher-priced loans. The escrow account must remain in place for at least five years. A conventional mortgage is regarded as higher priced if the interest rate exceeds the average rate by 1.5 percent. On a second mortgage, the loan is higher priced if the interest rate is 2.5 percent above the norm. Jumbo loans are mortgages with dollar amounts that exceed the conforming limits as set by government-sponsored enterprises -- Fannie Mae and Freddie Mac. Limits vary by locality, but jumbo loans with rates 3.5 percent above the average are also categorized as higher priced.
Escrow accounts other than those involving higher priced loans are established at the discretion of the lender. Certain small, rural lenders are exempt from regulation Z. Institutions with less than $2 billion in assets, fewer than 500 loans and operating in under-served communities do not have to establish escrow accounts. This exemption enables smaller banks to cut costs associated with administering the accounts. However, many small institutions still opt to establish escrow accounts in order to reduce the likelihood of foreclosure-related losses.
Property taxes and insurance rates can change over the course of a year. On a fixed-rate mortgage, your payment only changes once a year. Therefore, your lender attempts to predict how much money you must pay into the escrow account in order to cover upcoming costs. To mitigate against tax and insurance rate hikes, your lender may factor a cushion into your monthly payments. The cushion cannot exceed one-sixth of the projected annual escrow expenses. Once a year, your lender must balance the account. If a surplus exists, you get a refund. Similarly, you may have to make an additional payment to cover any deficit.
Under RESPA, lenders must make tax and insurance payments on a timely basis. Even if you fall behind on mortgage payments, your lender must pay these costs as long as you are delinquent by no more than 30 days. Lenders must respond to queries relating to escrow accounts within 20 days. Your lender must address and rectify any issues within 60 days of receiving notice. You can sue a lender for improperly managing your escrow account.