In the US, mortgage lenders may require an escrow account to hold monthly contributions towards hazard insurance and property taxes. 14 states require lenders to pay interest on deposit accounts, but in the other 36 states borrowers can earn interest by closing their escrow accounts and paying taxes and insurance themselves. However, borrowers must determine if it is financially prudent to do so, as additional costs may be imposed. Paying insurance and taxes directly ensures they are properly accounted for and makes the transition of responsibility easier once the mortgage is paid off.
In the United States, when real estate is purchased with borrowed money, that is, a mortgage, the mortgage lender will make arrangements with the borrower not only for periodic repayment of principal and interest due on the mortgage loan, but also frequently require that an escrow account be established to hold the borrower’s monthly contributions toward future hazard insurance premium payments and property taxes. In many cases, these amounts can be substantial, in some cases up to $10,000 United States Dollars (USD) annually. Borrowers often want to know if they can earn interest on escrow accounts. However, there is no clear answer to this question.
In the US, 14 states require mortgage lenders to pay interest on deposit accounts under certain conditions, and borrowers who meet those conditions in those states do not have to worry about this issue. In some of these states, the law specifies the minimum interest rates payable on such accounts, and at times when prevailing interest rates are low, interest rates on escrow accounts may actually be higher than available for savings and money market accounts.
However, the other 36 states do not require lenders to pay interest on escrow accounts. Borrowers can earn interest on escrow funds, but the only way to do so is to close their escrow accounts and pay property taxes and insurance premiums when due. Most mortgage lenders will allow borrowers to close escrow accounts and pay their own insurance and tax bills when their equity, that is, the difference between the property’s value and the outstanding balance on the mortgage, is at less than 20% of the value of the property and its loans. are at least one year old with no late payments in the previous 12 months. Some lenders will have additional requirements and may also require borrowers to pay a fee to close an escrow account.
Therefore, because additional costs will generally be imposed on borrowers to close their escrow accounts, borrowers must determine how long it will take to break even, that is, how many months or years it will take for interest earned on the type of escrow funds to exceed the amount lost by the lender’s fees. It may not be financially prudent, for example, to take responsibility for holding funds in escrow in one’s own account if the borrower plans to sell the property before that break-even point.
An eligible borrower who decides to close an escrow account must establish an actual account, typically a savings or money market account, or short-term certificates of deposit (CDs), either at a bank or credit union, in which to store funds before disbursement to the tax authority or insurance company. At this point, it’s also prudent to explore the possibility of discounts or credits that might be available from any of them, and take advantage of them. One benefit available to borrowers with credit cards that pay rewards on amounts spent is that they can charge their insurance and tax bills to those cards. Assuming they then pay the credit card company immediately, they have the added benefit of the rewards of using the credit card.
Taking responsibility for paying one’s own insurance premiums and property taxes is beneficial, rather than assuming that the mortgage lender will adequately pay those bills. The first of these is the absolute knowledge that the invoices are being paid and that the funds are properly accounted for; Problems with escrow accounts are one of the top complaints American homeowners have with their mortgage lenders. Additionally, a hidden benefit of paying one’s own insurance premiums and property taxes is that once the mortgage has been paid off, there is no difficulty in transitioning responsibility for those payments from the lender. In some cases, homeowners whose mortgages were foreclosed were not in the habit of paying homeowners insurance premiums and did not, and insurance companies canceled policies for non-payment of premium.
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