Whether it’s tax season or any other time of year, no homeowner wants to hear about an escrow shortage. Fielding questions from homeowners about their property taxes, insurance, and escrow accounts can be complicated, especially if an escrow shortage is recorded. For this reason, LoanCare performs regular escrow account analyses for our mortgage subservicer accounts to minimize potential escrow shortage issues. This protects your interests as a lender and your relationships with your borrowers. No one likes surprises, and by conducting proactive escrow management as part of our mortgage servicer administration tasks, you and your borrowers can avoid financial bombshells that may affect mortgage payments.
What is Escrow?
Escrow is a legal arrangement where a third party holds a person’s asset (usually property or money) in an account until a predetermined condition has been fulfilled. In the case of real estate, a portion of a homeowner’s monthly mortgage payment is reserved by the mortgage servicer (LoanCare) to pay for the homeowner’s property taxes and insurance. Once the mortgage term has been met, the escrow account associated with the loan is closed and any remaining funds dispersed back to the homeowner. In the mortgage industry, servicers are bound by regulatory requirements in all aspects of servicing, and escrow is no exception. In particular, Section 10 of the Real Estate Settlement Procedures Act (RESPA) provides the requirements for the collection and disbursement of escrow funds and escrow statement contents, among other things.
The Problems Escrow Administrators Face
Because increasing tax and insurance bills are the cause of escrow account adjustments, it is important that your mortgage borrowers understand the reasons for the increased costs. While no borrower welcomes an increase in their monthly payment, a mortgage lender who proactively communicates the detail of their escrow account will be appreciated. In addition, your borrower will appreciate understanding the valuable information contained in their escrow analysis statement and how it protects them from surprises down the road.
What Two Factors are at the Root of Escrow account Adjustments?
- The increasing cost of homeowners insurance policies. You may have read recent articles about several large home insurance companies leaving the California homeowners insurance market. In that case, the issue is increased losses due to wildfires. Whether insurance companies are dealing with Gulf Coast hurricanes or West Coast wildfires, their losses and premiums are increasing at a high rate. Increases in insurance payments can cause an escrow deficiency. However, increasing claims volume is only part of the problem. The last few years have seen increases in the cost of the labor and materials needed to repair or replace a home. The combination of increased claim volume and replacement and repair costs are driving up the cost of insurance and, therefore, the amount needed in escrow accounts.
- Increased property tax bills. Many of the same factors driving up insurance premiums also affect local governments. Local communities must also pay their workers and purchase materials to maintain buildings, roads, parks, and other infrastructure. If a tax payment increases considerably from the previous year, the escrow account will not have enough money to pay the full bill. The homeowner must then make up the shortage amount.
How Does a Mortgage Servicer Know how Much to Hold in Escrow?
Mortgage servicers conduct an escrow analysis, typically once per year, to predict the total tax burden required for the year ahead and any insurance premiums changes. Because taxes and insurance can change year over year, the amount required to be held in escrow can also change. To calculate an initial escrow payment for a recently purchased home, the mortgage lender will take the home’s sale price and multiply it by the county’s current tax rate. Experienced lenders who do their research usually estimate the required future property taxes correctly and there will be no shortage.
For established mortgages, most often the servicer will determine escrow payments by comparing the previous year’s bill. If their escrow analysis shows that they’ve collected too much for insurance and taxes, an escrow refund will be issued to the homeowner. On the other hand, if the analysis shows that too little was collected, this is an escrow shortage. The difference will need to be covered by the homeowner – either by a one-time payment or by increasing their monthly mortgage payment. For example, if a homeowner’s insurance went up by $300, the mortgage servicer will calculate a shortage of $600 to cover the previously paid-out portion from the prior year, and the $300 for the coming year.
What Causes an Escrow Shortage?
2023 has seen a spike in escrow shortages, but why is this happening? As discussed above, a shortage occurs when there are insufficient funds held in escrow to cover property taxes and insurance. This may come about because the lender at origination did not properly calculate the needed escrow payments, there was an increase in insurance premiums, or the homeowner’s Adjustable-Rate Mortgage (ARM) rate increased.
Homeowners who purchased between 2020 and 2022 enjoyed unprecedented property value increases. But with that valuation increase came an increase in property taxes that lenders and mortgage servicers couldn’t accurately predict, causing many more homeowners to have escrow shortages.
As noted above, there has also been a rise in natural disasters across the United States, causing insurance providers to increase their premiums and/or require additional coverage. Homeowners living in commonly impacted states like Florida and California may see disproportionately higher insurance premium hikes than those in other states. For example, newly required flood insurance as a result of sea level rise in coastal states is a frequent reason for escrow shortages.
How to Support Your Homeowners Experiencing an Escrow Shortage
The short answer is to be prepared and respond with empathy. Understand that any shortage is likely a surprise to your homeowner and that they will have questions. Proactively have resources and solutions available and be prepared to handle an increase in homeowner calls and emails immediately following their escrow analysis.
To provide the best possible experience for our homeowners, LoanCare sends letters to those experiencing an escrow shortage which details the reason, offers solutions for repayment and options to safeguard against future shortages. Our experienced team of call center agents are available to walk homeowners through their options and quickly get their accounts back on track for the coming year.
How a Mortgage Subservicer can Help
Mortgage subservicers like LoanCare take the burden of calculating and managing escrow payments off of lenders so they can focus on originations. We handle the collection of escrow payments and have a dedicated team of escrow professionals to support our partners and their homeowners through annual escrow analyses. “We are constantly monitoring escrow advances to ensure we are collecting as soon as possible from the homeowner to avoid shortages,” said Stephanie LaCognata, VP Escrow Administration. This includes monitoring for triggering events, such as a homeowner changing insurance agencies mid-year or an unexpected lender-placed insurance policy, to complete an interim or off-cycle escrow analysis. This ensures that homeowners have the most current information about their escrow accounts and are aware of any changes to their payments as soon as possible.
Common Questions From Homeowners and How to Respond
- Should I pay the escrow shortage? The answer is yes. As a homeowner, you are required to pay your property taxes and maintain adequate homeowners insurance. Your escrow account enables you to budget for your anticipated costs over the complete year, however, unexpected changes can result in an escrow shortage which must be paid.
- Can I fight your escrow shortage? The answer is no. Your mortgage loan terms include your escrow payments, which are a legal obligation. Remember, mortgage lenders and mortgage servicers do not have any control over changes in your property tax assessment or insurance costs. They are responsible for administering your escrow account to ensure that when the bills come due, you will have enough funds to pay them.
- How do I avoid an escrow shortage? Home buyers must use their online portal to monitor their escrow account balance. Keep up to date on your local government’s financial plans and spending. If you know that there could be a special or unusual increase in your property tax assessment, make plans to adjust your savings so that you can pay any lump sum to make up the shortfall. Your mortgage servicer will do an annual escrow analysis that will adjust your payments for the coming year to help you spread the cost and help you avoid having to drain your savings account.
If you are interested in enlisting the help of a subservicer who is adept in conducting thorough, accurate escrow analyses – one that proactively communicates the results with borrowers to promote a better understanding of shortages if and when they occur, contact LoanCare today.