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Understanding Escrow for Mortgage and Homebuying, Part 1

understanding escrow mortgage homebuying loan

There are several financial terms that may come along with a mortgage loan and homebuying situation, and one that some first-time buyers may not be familiar with is escrow. Put in place to protect both buyers and sellers, escrow refers to money held by a third party during a transaction that’s being negotiated or finalized.

At Primary Residential Mortgage, we’re happy to go over escrow and any other financial basics you’re wondering about for any of our mortgage loans, from conventional loan types to FHA Loan, VA loans and numerous others we offer to our clients. In this multi-part blog series, we’ll break down everything you need to know about escrow during a homebuying situation, including the circumstances it’s used for, the terms you should know and several other important factors.

Escrow Basics

As we noted above, escrow refers to any situation where a neutral third party holds money or valuables during a transaction. In cases of a home sale, the third party in question (more on who this party is later on in our series) will be holding sums of cash for at least one purpose.

Escrow is meant to protect both parties involved in a home sale from several risks. Real estate deals are high-value in nature, meaning they attract scam artists. Keeping money in escrow ensures it can only be accessed for specific, pre-agreed purposes as part of the sale, helping prevent many of the most common real estate scams that are run today.

“Earnest Money”

Escrow within the real estate world is tied directly to a concept known as “earnest money” (or a good faith deposit in some circles). When a buyer opens negotiations with a seller for their property, the seller typically makes a good-faith move and pulls the home in question off the market – this is an investment they’re making, as there will be a cost to putting the house back on the market if the sale falls through.

In return, the buyer will put down between 1% and 3% of the home’s listed price as earnest money. Assuming the parties agree, this sum will just be added to their eventual purchase amount.

Escrow Types

Now, there is more than one type of escrow available. Generally, there are two to consider:

  • Good faith deposit: The scenario we just described above, where the buyer puts money down in good faith during the negotiation and the money goes toward their purchase assuming the sale moves forward.
  • Taxes and insurance: In other cases, lenders themselves will establish an escrow account to pay for property taxes, insurance and related needs. A portion of each monthly mortgage payment will be held in escrow until such tax and insurance payments are due, then used to pay these off as needed. Most lenders tend to require about two months’ worth of extra payments be held in the escrow account. Specific escrow payments will vary from year to year – your lender will advise you on this area.

For more on escrow within a homebuying and mortgage situation, or to learn about any of our mortgage rates or loan programs, speak to the staff at Primary Residential Mortgage today.

*PRMI NMLS 3094. PRMI is an Equal Housing Lender. Some products and services may not be available in all states. Credit and collateral are subject to approval. Terms and conditions apply. Programs, rates, terms, and conditions are subject to change and are subject to borrower(s) qualification. This is not a commitment to lend. Opinions expressed are solely my own and do not express the views of my employer.

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