Mortgage Escrow Accounts Explained: Taxes, Insurance, and How It All Works

One of the most confusing aspects of homeownership for first-time buyers is the escrow account. Your mortgage payment is higher than just principal and interest — and that extra money goes somewhere. Here is exactly how it works.

What Is an Escrow Account

An escrow account is a third-party account managed by your mortgage servicer that holds funds for property taxes and homeowners insurance. Rather than paying these large bills in lump sums, you contribute a monthly portion into escrow and your servicer pays the bills when due.

Why Lenders Require Escrow

Property taxes are typically senior to mortgage liens — meaning unpaid taxes can allow the government to seize the property ahead of the lender's interest. Escrow protects lenders by ensuring taxes and insurance are always current.

Conventional loans with less than 20% down typically require escrow. With 20% or more down, some lenders allow escrow waiver — sometimes for a small fee. FHA loans require escrow for the life of the loan.

How Payments Are Calculated

Your servicer analyzes your expected annual property tax and insurance bills, divides by 12, and adds that amount to your monthly payment. Lenders maintain a cushion of up to two months of escrow payments as a buffer.

Escrow Shortages and Surpluses

Tax assessments and insurance premiums change over time. Your servicer conducts an annual escrow analysis. If the account is short — meaning bills have exceeded what was collected — your monthly payment increases to make up the difference, or you can pay the shortage upfront as a lump sum. If there is a surplus over $50, it is typically refunded to you.

At East Coast Mortgage, we explain the full cost of homeownership including taxes, insurance, and escrow during every pre-qualification so there are no surprises. Book a call to get your complete monthly payment picture.