In real estate, what is an escrow account?
(hint: there are three you are likely to encounter)
There are three escrow accounts you are likely to encounter when buying or selling a home. Before I go into them individually, I would like to share the definition of escrow.
Escrow Account 1. In Accounting, this is a special account for holding specific monies for disbursement under specific conditions. 2. In Banking, this is a special account for holding specific monies for disbursement under specific conditions. In this case, the bank disburses monies to pay whatever obligation the account holder assigned (from Black’s Free Online Dictionary)
The first of the three escrow accounts we are going to discuss is the real estate broker’s escrow.
People usually assume that when they give the selling agent an earnest money check, that it is delivered directly to the home owner. That is not the case. It is taken by the selling agent and delivered directly to the listing broker, who in turn gives it to their managing broker, who in turn places it into the brokers escrow. There it is held until the real estate contract is fulfilled, at which time it is delivered to the title company and then to the owner who sold the property (assuming they are owed the balance.)
The real estate brokers escrow account, which is managed by the managing broker of the realtor listing the home for sale is used for the holding of earnest money. This account is required to pay no interest (or if it is an interest bearing account all interest gained must be paid to the party that receives the earnest money). The account exists to prevent monies being held by the broker for their clientele from being intermingled and “lost” in business or personal funds.
The second of the three escrow accounts is the title companies escrow account.
As the title company is the point where all parties (buyer, seller, lender, home warranty, etc.) come together and “settle up”. They are tasked with holding large funds and settling the balance sheet. As a result of this fiduciary responsibility, they maintain a tightly regulated escrow account that all funds in a real estate transaction (that passes through a title company) pass through.
It should be noted that in order for funds and real property to be released at closing the contract must be satisfied and all parties to the contract agree.
The third type of escrow account you are likely to encounter is the mortgage escrow.
This particular escrow account is the one that people are usually asking about when they are confused about escrow in a real estate transaction. This account is created and held by the financial institution that holds the mortgage on a property. Its purpose is to insure that property taxes are paid and that home owners insurance is maintained on the property. This type of escrow is almost always required as a condition of the mortgage.
One of the ways it will affect a home buyer is that their mortgage payment may fluctuate based on changes to the properties tax assessment and the price of the home owners insurance. You should receive and annual letter detailing the status of the escrow account, and additional notifications of any changes made to the account based on new tax assessments or home owners insurance rates.
In summary, escrow accounts exist to ensure that promised funds go where they are supposed to.
I hope this answered the question well. Feel free to reach out to me with all of your real estate related questions. As always, this article focuses on the structure of a real estate transaction in Indianapolis, Indiana (and the rest of the MIBOR area. Circumstances may be different in other places.