What Happens If Your Escrow Is Negative?
Understand the implications of a negative mortgage escrow balance. Get clear insights into managing and resolving unexpected shifts in your home's financial obligations.
An escrow account serves as a holding account managed by your mortgage lender or servicer. It collects funds from your monthly mortgage payments to cover property-related expenses like property taxes, homeowners insurance, and sometimes mortgage insurance premiums. This setup ensures these important bills are paid on time, protecting both your investment and the lender’s security in the property.
Understanding an Escrow Deficit
A “negative escrow” or “escrow deficit” indicates that the funds collected by your mortgage servicer for property taxes and insurance were insufficient to cover the actual costs incurred. This means the balance in your escrow account has fallen below the amount needed to pay upcoming bills, or the servicer advanced funds on your behalf. Homeowners typically discover this issue through an annual escrow analysis statement provided by their mortgage servicer.
The Real Estate Settlement Procedures Act (RESPA) mandates that servicers conduct an escrow account analysis at least once a year. This analysis compares projected payments into the account with actual disbursements made for taxes and insurance over the past 12 months, and it estimates future costs. If this review reveals that collected amounts were less than what was needed, a shortage or deficit is identified, and your servicer will notify you within 30 days of completing the analysis.
Common Causes of a Negative Escrow Balance
Several factors can lead to an escrow account falling into a negative balance. One frequent cause is an increase in property taxes. Local governments may reassess property values or implement new levies, directly increasing the amount due for annual taxes. For instance, if a new home was initially assessed only on land value, a subsequent assessment including the completed structure will significantly raise property taxes.
Increases in homeowners insurance premiums also commonly contribute to escrow deficits. Insurance companies may adjust rates due to factors like inflation, a rise in claims in a specific area, or increased costs for rebuilding. Unexpected increases in other escrowed items, such as private mortgage insurance (PMI) premiums, can also cause a shortage if not adequately accounted for.
Sometimes, the initial estimation of costs by the lender when the escrow account was established may have been too low. This underestimation can occur if the lender’s projection for taxes or insurance did not fully anticipate future increases or changes in policy costs. Consequently, monthly contributions collected were insufficient from the start, leading to a shortfall over time.
Resolving an Escrow Deficit
Once an escrow deficit is identified, homeowners have options to address the negative balance. One common approach is to pay the entire shortage amount as a single lump sum. This one-time payment directly covers the existing deficit and helps avoid an increase in future monthly mortgage payments solely due to the shortage.
Alternatively, homeowners can opt to have the deficit spread out and added to their regular monthly mortgage payments over a specified period, most commonly 12 months. This means your monthly payment will increase for that duration to cover both the deficit and the ongoing estimated costs for taxes and insurance. For example, a $1,200 deficit might add $100 to your monthly payment for the next year. Mortgage servicers communicate these repayment options and provide a timeframe for the homeowner to make a decision, often before the effective date of the new escrow analysis statement.
Consequences of Unresolved Deficits
Failing to address or resolve a reported escrow deficit can lead to various financial repercussions. Your mortgage servicer is obligated to make timely payments for property taxes and insurance, even if your escrow account is short on funds. If an escrow deficiency occurs, the lender will advance the necessary funds to cover these disbursements. This advanced amount then becomes a debt owed by the homeowner to the lender.
If the homeowner does not repay this debt, the lender may consider it a breach of the mortgage agreement. This can potentially lead to the lender initiating default procedures on the loan. While immediate foreclosure is unlikely for a minor escrow deficit, persistent failure to address the issue could escalate to serious consequences, including foreclosure proceedings. Furthermore, unresolved financial obligations and potential default actions can negatively impact a homeowner’s credit score, making it harder to obtain future credit or loans.