Quick overview

A mortgage escrow account (sometimes called an “impound” account) is a holding account your mortgage servicer uses to collect and pay recurring property-related expenses—most commonly property taxes and homeowners insurance. Lenders commonly require escrow accounts for borrowers with conventional, FHA, or VA loans unless the borrower qualifies for an escrow waiver. Escrow reduces the risk that taxes or insurance will go unpaid and lets homeowners spread large annual costs across monthly payments.

This article explains how escrow accounts are set up and managed, what an annual escrow analysis does, how shortages and surpluses are handled, state and federal rules that matter to homebuyers, and practical tips you can use at closing and after you move in. Where helpful I include short, real-world examples from my 15+ years helping buyers navigate mortgage servicing and escrow issues.

Sources and rules referenced in this article include the Consumer Financial Protection Bureau (CFPB) guidance on escrow accounts and federal servicing rules under RESPA/Regulation X (see CFPB and HUD links below) — check your loan documents and talk to your servicer for case-specific answers. This is educational information, not personalized legal or tax advice.

How escrow accounts are funded and used

  • Initial setup: At closing your lender will tell you whether an escrow account is required. If required, you often must deposit an initial escrow balance that covers the time between closing and the first bill(s) plus any cushion the lender allows.
  • Monthly contributions: Each monthly mortgage payment typically includes three parts: principal and interest (P&I), escrow, and any mortgage insurance or homeowner association dues. The escrow portion accumulates until bills are due.
  • Bill payments: When property taxes or insurance premiums are due, the servicer pays them from the escrow account on your behalf.

Example: If your annual property tax is $2,400 and homeowners insurance is $1,200, your lender may divide the combined $3,600 by 12 and add $300 to your monthly mortgage payment for escrow.

Annual escrow analysis: what it is and why it matters

Mortgage servicers must perform an annual escrow analysis to reconcile what was collected with what was paid during the year. The analysis determines whether you have:

  • a shortage (you didn’t pay enough into escrow),
  • a surplus (you overpaid), or
  • the correct amount.

If there’s a shortage, servicers typically either ask for a one-time payment to cover it or increase monthly escrow contributions to make up the shortfall over the next year. If there’s a surplus, federal rules generally require the servicer to refund amounts above a small threshold (see CFPB links). The analysis also recalculates the upcoming year’s escrow payment using current tax and insurance estimates.

CFPB guidance explains the annual statement and what to expect; review that statement carefully and compare line items to your tax notices and insurance invoices (Consumer Financial Protection Bureau, What is an escrow account?).

Common escrow events that change your monthly payment

  • Property tax increases or reassessments.
  • Homeowners insurance renewals or changes in coverage.
  • New local assessments (flood levies, school bonds) or changes in payment timing (quarterly vs annual).
  • A prior shortage that is added to your monthly payment.

In my practice, the most frequent surprise for new homeowners is a local property tax reassessment that increases taxes by several hundred dollars a year. That change shows up on the annual escrow analysis and can raise your monthly payment even if your interest rate and principal stay the same.

Shortages and surpluses: how they are handled

  • Shortages: If your escrow analysis shows a shortage, servicers will give you options: pay the shortage as a lump sum or spread it over 12 months (amortize it into your monthly escrow payment). The exact choices and timing are included in your annual escrow statement. If you prefer to avoid paying more monthly, you can make a one-time payment instead of accepting the amortized increase.

  • Surpluses: If there’s a surplus above a small threshold (often $50), federal rules generally require the servicer to refund the surplus or apply it to future escrow payments. If you want the refund check, contact your servicer and follow their refund process.

Refer to CFPB guidance for a clear description of servicer obligations and your rights when an escrow analysis shows a shortage or surplus.

Escrow cushions, required accounts, and consumer protections

  • Escrow cushion: Federal rules permit servicers to maintain a small cushion (commonly up to two months of escrow payments) to prevent shortfalls due to timing differences. The precise amount depends on your servicer and loan terms; check your mortgage note and escrow disclosure.
  • Required accounts: Many lenders require escrow accounts for borrowers with low down payments, FHA or VA loans, or loans sold to government-sponsored enterprises. Some lenders offer an escrow waiver for well-qualified borrowers, often for a fee.
  • Consumer protections: RESPA and CFPB rules require clear disclosures at closing (an initial escrow disclosure) and an annual escrow statement. The servicer must also notify you about shortages and provide options to cure them. See CFPB’s escrow account page for details.

State rules and escrow interest

A few states require lenders to pay interest on escrow account balances, or they limit fees servicers can charge. Whether escrow balances earn interest and how refunds are delivered depends on state law and your loan contract. If this matters to you, ask your servicer and check state regulations.

Escrow waivers: when they’re available and when they’re not

Some lenders allow borrowers to waive escrow accounts if they have a large down payment or strong credit. An escrow waiver moves responsibility for taxes and insurance to the homeowner, which can save a small monthly fee but creates the risk of missing large annual bills. Consider these trade-offs:

  • Pros of waiving escrow: more control of cash flow each month; potential slight monthly saving.
  • Cons: you must be disciplined to save for big bills; missing a payment can lead to tax penalties or lapsed insurance (which can trigger force-placed insurance at higher cost).

If you’re offered a waiver, ask whether the lender charges a recurring fee for the waiver and whether the waiver is reversible if you later fall behind or refinance.

Practical steps for homebuyers at closing and after

  1. Read the initial escrow disclosure at closing. It shows how the servicer calculated your first-year escrow payments and any required initial deposit.
  2. Keep tax and insurance bills. Compare them to the annual escrow analysis.
  3. When you get the annual escrow statement, review the math: beginning balance, payments in, disbursements, shortage/surplus, and new monthly escrow payment.
  4. If you get a shortage, ask for a payment schedule or offer a lump-sum payment to avoid higher monthly payments.
  5. If you suspect an error, contact your loan servicer in writing and keep a record; you can escalate to the CFPB if you can’t resolve a dispute (Consumer Financial Protection Bureau complaint process).
  6. Consider creating a separate savings account if you want to waive escrow in the future so you have an emergency fund for taxes and insurance.

Examples from practice

Example 1 — Small shortage spread over 12 months
A homeowner’s annual property tax increases by $600. The servicer shows a $600 shortage at the annual escrow analysis and offers to add $50 per month to the escrow part of the mortgage payment for the next 12 months. The homeowner accepts to avoid a lump sum.

Example 2 — Surplus refund
A borrower overfunds escrow during the prior year and the analysis shows a $120 surplus. Because the surplus exceeds typical refund thresholds, the servicer issues a refund check for $120 or applies it to next year’s escrow depending on borrower preference and servicer policy.

Frequently asked practical questions

  • Will escrow funds earn interest? Some states require interest on escrow balances; most servicers do not pay interest unless state law requires it. Check your state law and mortgage contract.
  • Can I cancel an escrow account? Possibly, if your lender allows an escrow waiver and you meet their requirements. If you recently purchased the property or have a low down payment, the lender may require escrow for some time.
  • What if my servicer refuses to correct a clear error? Document your communications and consider filing a complaint with the CFPB if the servicer won’t correct the error (Consumer Financial Protection Bureau).

Internal resources on finhelp.io

For related reading on this site, see:

These explain servicer obligations and practical steps to reconcile escrow shortages.

Final takeaways

Mortgage escrow accounts reduce the risk of missed property tax and insurance payments and smooth the financial impact of large annual bills. Read your initial escrow disclosure and annual escrow analysis carefully, compare them to tax and insurance records, and contact your servicer promptly if you see errors. If you’re considering an escrow waiver, weigh the convenience and slight monthly savings against the responsibility of saving for big bills.

This information is educational and based on general federal guidance (Consumer Financial Protection Bureau) and my professional experience working with homebuyers and mortgage servicers. For personalized advice about your loan, consult your mortgage servicer, a licensed real estate attorney, or a financial professional.

Authoritative sources