How to Calculate an Escrow Shortage

Understanding Escrow Accounts

An escrow account is a specialized financial arrangement established by your mortgage lender. This account serves as a holding place for funds collected from your monthly mortgage payments, specifically designated to cover certain property-related expenses. The primary purpose of an escrow account is to ensure that significant, recurring homeownership costs are paid on time, thereby protecting both the homeowner and the lender’s interest in the property.

The two main expenses typically covered by an escrow account are property taxes and homeowner’s insurance premiums. Each month, a portion of your mortgage payment is allocated to this account. When these bills become due, your lender uses the accumulated funds to make the payments on your behalf, helping homeowners budget for large, infrequent expenses.

Identifying the Causes of a Shortage

An escrow shortage occurs when the funds held in your escrow account are insufficient to cover the anticipated property tax and homeowner’s insurance disbursements. Lenders conduct an annual escrow analysis to review account activity and project future costs, which can reveal a shortage.

One common reason for a shortage is an increase in property taxes. This can result from county reassessments of your property’s value, new local levies, or general increases in property values.

Homeowner’s insurance premiums can also increase, contributing to an escrow shortage. Factors such as a rise in claims, inflation, increased construction costs, or more frequent severe weather events can lead to higher premiums. Changes in your home’s value or policy adjustments can also impact insurance costs.

Sometimes, an initial underestimation by the lender when the escrow account was first set up can lead to a shortage later. Additionally, switching insurance policies mid-year without properly accounting for refunds can sometimes create an imbalance.

Steps to Calculate Your Escrow Shortage

Calculating your escrow shortage involves comparing the actual amounts disbursed from your account against the payments you made into it over a specific period, typically the last 12 months. This process requires reviewing relevant financial documents.

To begin, you will need your annual escrow statement from your mortgage lender. This statement details all funds collected and paid out during the past year. Also obtain your property tax bills and homeowner’s insurance premium notices, which confirm actual amounts due.

Determine total disbursements from your escrow account for property taxes and homeowner’s insurance over the past 12 months. Next, calculate the total amount of payments you made into your escrow account during the same period. This is found on your monthly mortgage statements.

With these two totals, you can calculate the shortage. Subtract your total escrow payments from the total actual disbursements. A positive result is your escrow shortage. For instance, if your lender disbursed $4,000 for taxes and insurance, but you only paid $3,600 into escrow, you have a $400 shortage.

Addressing an Escrow Shortage

When an escrow shortage is identified, your mortgage lender will typically notify you through an annual escrow analysis statement. This document will detail the current balance, projected disbursements, and the exact shortage amount.

Homeowners generally have two primary methods for addressing an escrow shortage. You can choose to pay the entire shortage amount in a single lump sum directly to your lender. This option immediately replenishes the account and avoids adjustments to your ongoing monthly mortgage payments.

Alternatively, your lender may offer to spread the shortage repayment over a period, commonly 12 months. In this scenario, the shortage amount is divided and added to your regular monthly mortgage payment for the upcoming year. This increases your monthly payment but allows you to repay the shortage incrementally. It is advisable to contact your lender to discuss the specific options available to you and to understand how each choice will impact your financial situation.