The Finance Buff

Does a Mortgage Escrow Account Pay Interest?

by on 25 Comments

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.

According to a document prepared for the Mortgage Bankers Association by Buckley Kolar LLP in February 2007, if you are in one of these 14 states, banks may be required to pay interest on your escrow account (there are exceptions):

  • California
  • Connecticut
  • Iowa
  • Maine
  • Maryland
  • Massachusetts
  • Minnesota
  • New Hampshire
  • New York
  • Oregon
  • Rhode Island
  • Utah
  • Vermont
  • Wisconsin

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.

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Comments

  1. I have a house in Maryland on a increasing-ownership contract with a financing company aimed at not dealing with interest because of religious reasons (in Islam, usury is a major sin). I am concerned about receiving interest on the escrow. Is there a way for me to not receive the interest, either by having the escrow stored in a non interest bearing account or by not having escrow at all?

    Reply

  2. Hasan – I’m sorry I don’t have an answer for you. You will have to ask the financing company if it requires escrow and how not to receive interest.

    Reply

  3. Thanks for the suggestion. I have contacted them about this. It seems though that the state law forces the financing company to pay interest to the home owner, even if he does not want to ‘earn’ the interest. Do you know of a process through which one might ask the government to allow the home owner to not have the escrow in a non-interest-bearing account?

    Reply

  4. Just wondering how the interest payment is made to the consumer? I have asked my mortgage company about it and they said they have too and I am coming up to my 1st anniversary so I am curious how I will receive that money.

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  5. Scuba MN – In my escrow account, the interest is credited to the escrow account every month and stays there. It will be used for tax and insurance together with the extra amount I pay into it every month. The interest is not paid out. The little bit of interest very likely will be eaten up by the increase in tax and insurance.

    Reply

  6. Well this is a surprise. We hold an account with Arundel Federal Savings Bank in Maryland and have never received any interest. When I asked the bank, they told me that they don’t have to pay interest. Please clarify.

    Reply

  8. The banks and the feds must be loving this one. I have a small mortgage that i will be paying off when it comes time to redo. The economey still sucks, now lets put more burdens on the american people who can now bareley meet their mortgage payments. The banks will take the added on money and make interest on it and the american people will loose, again and again..

    Reply

  9. I have a question, my friend was involved in a law suit and when she received her settlement from the attorney she noticed from the itemized list that he sent (on everything owed) that he placed some money into an escrow account. after carefully looking over it she also noticed that he made 2,500 withing 2-2 1/2 weeks of placing that money into an escrow account and was able to pay himself back from a loan (instead of taking this money out of her settlement) she had made with in him. my question is can an escrow account be set up for other than paying mortgage and property taxes? can it be set up for personal use like if she wants to purchase a house next year or just have money to pay off some bills at the end of the year? if so where/how can I find out more about setting up an escrow account.

    Reply

  10. My mortgage company is holding over $20,000 of my money that I received for a loss to my home. (Storm Damge) and is holding it until all repairs are finished.
    Is the bank required to pay interest on this money while they hold it. Is this any different from money that is held in escrow for taxes?

    Reply

  11. One addition – cancelling escrow will allow you to use a rewards credit card when you directly pay your homeowner’s insurance premium, an additional net savings equal to your cash back or other benefit (assuming you pay it off in the grace period)

    Reply

    • The interest is added to the escrow account balance, which is taken into account in the annual analysis of your escrow account. If your property tax goes up, the interest partially offsets it. Then you will have a smaller increase in the amount you will have to pay into escrow next year. Of course when you sell or refinance you get the escrow balance back, including interest.

  13. I live in the state of California. I have always received interest on my escrow payments. My loan was recently sold to a mortgage company that operates out of Texas. They say that they don’t have to pay interest because they are located in Texas. Is this true?

    Reply

    • Customer service people often give the wrong answer. The computer knows better. Just wait to see if you get interest. Some companies pay interest only at the end of the quarter or the end of the year. I had no fewer than five different companies holding my mortgage. I always received interest.

  14. I am receiving an insurance claim check to repair the roof which I must turn over to the Mortgage holder. They are placing the check into an ESCROW account and we are to draw off the check as bills come in. I live in the state of Alabama. Do they receive interest off the ESCROW account being in their bank? Thank you for your time.

    Reply

    • Alabama isn’t on the list. Chances are you won’t get interest. Check with the bank if you want to be sure. If it’s only until the bills are paid, you are not missing out on much interest anyway.

  15. The whole escrow system seems crazy. If the money I pay in escrow each month was used to pay off my mortgage balance instead and then when bills came due they were payed like a revolving credit account I would pay my mortgage off years earlier. That’s how I paid my Mortgage in New Zealand where I am from.

    Reply

  16. Ca resident. When I asked escrow agent to put my funds into an interest bearing account I was told the fee to set it up far exceeds any interest I would earn. How much is it to set up the account? They set one up even if they don’t give me the interest too. In the contract I’m looking over it says they will gain from any interest earned. Am I getting a brush off so they don’t have to give up the interest?

    Reply

    • You seem to be talking about a different type of escrow account. This article is about escrow accounts set up by banks that collect your payments for homeowner’s insurance and property tax together with your mortgage payments.

  17. Hi, I live in CA and am not getting interest in my escrow account. I have asked and gotten a “run around” answer.
    What are the exceptions to not getting interest, seems to me everyone should if a bank is holding your money! Thank you.

    Reply

    • Is your property also in California? Is it a one- to four-family residence? Over the years I had many companies servicing my mortgage and escrow account in California. I always get interest. Some companies only paid once a quarter. One company only paid once a year. The California law is Civil Code 2954.8:

      2954.8. (a) Every financial institution that makes loans upon the security of real property containing only a one- to four-family residence and located in this state or purchases obligations secured by such property and that receives money in advance for payment of taxes and assessments on the property, for insurance, or for other purposes relating to the property, shall pay interest on the amount so held to the borrower. The interest on such amounts shall be at the rate of at least 2 percent simple interest per annum. Such interest shall be credited to the borrower’s account annually or upon termination of such account, whichever is earlier.

      Civil Code 2954.8

  18. I live in New York State and have a mortgage on my home. The Bank that made my mortgage loan is a nationally chartered bank (“National Association or N.A.”) and is escrowing for real estate taxes. Is the Bank obligated to pay me interest on my escrow account? I know New York law requires Banks to pay interest, but does that requirement apply to Banks who are National Associations? If they are required to pay interest, is there a federal statute or case on the subject?

    Thank you

    Reply

  19. I went round and round with my bank in CA, and they stood by some Federal rule that overruled State laws, and said because they were a federal bank they didn’t have to pay interest. They never did.
    They just sold my loan to another servicer, not sure their status, but not sure how much time to spend on it, as it seems the laws are convoluted. no surprise there.

    Reply

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