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How to Break Free from Your Escrow Account

When my fiancé, Paul, and I bought our first home last September, a co-worker of mine asked if we were going to use an escrow account or not. After shelling out tens of thousands of dollars, the thought of owing large tax bills in just a few months in the New Year made an escrow account an appetizing option. Besides, as a first time home buyer [1], I was not fully knowledgeable with how the entire home buying process worked, so when we found out that most new home buyers use an escrow account, we chose to go with the flow and do so as well.

Now that we’ve had the chance to burn a few fires in our fireplace, plant our fall crop (we live in Houston, TX), and have a party or two with our new grill, we are taking the time to reassess and fine-tune bills associated with our home.  By shopping around for homeowner’s insurance [2], we were able to get comparable coverage at a whopping $739 less than the plan we originally signed up for.

With such a great savings under my belt, I thought I would next tackle the escrow account, and share with you the benefits of not having one, the conditions you must meet to get rid of your own, and how to make sure you can still pay your homeowner’s insurance and taxes each year.

Benefits of Losing the Escrow

The first benefit is being able to use your money to earn money for you. By paying a mortgage company an extra several hundred dollars each month, you are giving them an interest-free loan (which they are using to earn themselves money) until your insurance premiums and property taxes are due each year. Instead, you can put that money into a savings account, or buy a six month CD, and earn interest for you. Here’s an example:

  • Let’s say you need $4800 by the end of the year in your ‘escrow’ account. You save $400 per month into an online savings account, such as ING Direct [3], with a current interest rate of 1.3% apy. After 12 months of saving $400 per month, you will have earned yourself $33.22. May not sound like much, but if you do this for the life of a 30 year loan, your return would be $996.60. (And let’s hope the interest rates on savings accounts go back up during that time, giving you an even higher yield!) Would you rather that $33.22 per year go to your bank, or to you?

Another great benefit of losing your escrow account is that you can now pay your homeowner’s insurance premiums on your credit card. Charge it to a cash back rewards card [4], or to a credit card with points/frequent flyer miles/etc., and you have given yourself a discount on your taxes. Just make sure you pay off the balance before incurring any finance charge.

Meeting the Requirements

As far as your lender is concerned, here are the typical requirements you usually must meet to eliminate your escrow account:

  • Your mortgage is at least one year old, and you have made on-time payments consistently for the entire year
  • LTV (loan-to-value ratio) has to be under 75%
  • Loan has to be a conventional loan (VA and FHA loans typically cannot shed their escrow accounts; it is part of the condition of a government-backed loan)
  • No taxes or insurance payments can be due in the next 30 days

Please note that lenders vary somewhat in their conditions, so you need to call yours up and ask them what conditions need to be met.

Making the Payments Each Year

Finally, probably the most important requirement of not paying into an escrow account is to be self-disciplined in your saving habits. Create your own escrow account using an online savings account, such as ING Direct [3], and pay into that account each month the amount that you need in order to cover your homeowner’s insurance premiums, flood insurance premiums, and property taxes each year (see example above). It is best to have this money automatically withdrawn from your checking or paycheck each month so that you do not think about it as much.

Make this account untouchable in your mind. You do not want to be sent a bill for several thousand dollars when you have already tapped your ‘escrow’ account for something else earlier in the year.