If you a regular reader of this blog, you probably read that I signed up for using an escrow account for my mortgage when I did my mortgage refinance a few months ago. This is the first time I’ve used an escrow account. I did it because I didn’t want to pay the escrow waiver fee or give up the credit the lender offered to me for my trouble.
When you use an escrow account, you pay a few hundred dollars extra every month on top of your regular monthly mortgage payment. The mortgage servicer holds those money until your property tax and homeowners insurance bills come due. Then they use that money to pay the tax and insurance bills.
I was hoping the mortgage servicer would cancel the escrow account after the loan is sold and the servicing is transferred. But they said no. They won’t close it unless I pay them a fee. I will just stick with it.
One reason (not the only reason) people don’t like using an escrow account is that the money for tax and insurance stays with the mortgage servicer before the bills are due. People prefer to keep the money in their own account and earn interest on it. I made an escrow waiver fee breakeven spreadsheet for this purpose.
Are banks required to pay interest on mortgage escrow accounts? Like almost anything in finance, the answer to this naively simple question is very complicated. Way too complicated in my humble opinion. The requirements vary from state to state. Only lawyers are able to figure it out. Here’s a 29-page document that answers this one simple question:
State Interest On Escrow Laws For Residential Mortgage Loans, Prepared for the Mortgage Bankers Association by Buckley Kolar LLP, February 2007
According to the document, if you are in one of these 14 states, banks may be required to pay interest on your escrow account (there are exceptions):
- New Hampshire
- New York
- Rhode Island
I was surprised to find out that my escrow account pays interest. Ironically the interest rate on my mortgage escrow account is higher than what I can earn in any money market fund right now and for the foreseeable future. I’m not complaining.
The laws must have been made when interest rate was high. That’s understandable because when interest rate was high, people complained most loudly if the banks didn’t pay interest on escrow accounts. The lawmakers never imagined that one day the Fed would cut the short-term interest rate to zero.