Do I have to pay homeowners insurance through escrow?

Buying a home is one of the largest investments you’ll ever make, and the process can be overwhelming. As you navigate through the process, many terms are used, including “escrow accounts.” 

As a homebuyer, you’ll likely have an escrow account. According to research firm LERETA, a company specializing in real estate tax and flood services for mortgage lenders and servicers,  80% of homeowners have an escrow account. 

Typically put into place when a homebuyer puts less than 20% of the purchase price down, the escrow account covers your monthly mortgage payments, property taxes and homeowners insurance premiums. 

“The lender handles payments directly, ensuring no missed deadlines or lapses in coverage,” said Benjamin Bruinekool, principal at Western Michigan Insurance Agency. 

In some cases, you may want to pay for your homeowners insurance independently, but several factors determine whether you can pay your insurance directly or if you’re locked into an escrow account. 

When can you pay homeowners insurance yourself?

Three key factors determine whether you can pay your homeowners insurance directly:

• Down payment amount: If your down payment was less than 20% of the purchase price, you typically will be put into an escrow agreement and will be required to pay for your homeowners insurance through that account. If you have paid down your mortgage or built enough equity that you have a loan-to-value ratio of 80% or better, you may be able to remove the escrow account. 
• Loan type: Some loans require you to remain in the escrow account for the life of the loan. For example, if you have a loan through the Federal Housing Administration (FHA), you must pay your taxes and homeowners insurance through escrow, regardless of how much equity you build. With conventional loans, you may be able to exit escrow if you pay down the mortgage balance. 
• Payment status: Although some homebuyers can remove their homeowners insurance from the escrow account, this option is usually only available to buyers who have made on-time payments for a certain period, such as one year. 

Pros and cons of paying homeowners insurance yourself

Before deciding to exit escrow, consider the following pros and cons: 

Advantages

Greater control over your payments

With an escrow account, you have regular monthly payments that cover your mortgage, property taxes and homeowners insurance. By removing these payments from escrow, you can pay your property taxes and insurance when you like — for example, if you typically receive an end-of-year bonus, you may opt to pay your homeowners insurance in a lump sum at that time. 

Ability to earn interest

When you’re in an escrow account, you pay the monthly amount into it, and the lender pays your taxes and insurance on your behalf. 

“Funds in escrow accounts typically don’t earn interest, unlike personal savings or investment accounts,” said Bruinekool.

If you pay it on your own, you can stash money each month in a high-yield savings account and earn interest on those funds until you need to pay your premiums. 

Potential for discounts

Some insurers offer discounts on homeowners insurance when you pay your annual premium upfront instead of opting for monthly installments. Even if you pay through escrow, you can still qualify for these discounts, as your mortgage company typically pays the insurance premium in full each year on your behalf.

Cons

More difficult to budget

When you aren’t in an escrow account, you’re responsible for paying for your mortgage, insurance and taxes on your own. An escrow account splits your cost into monthly installments while going it alone requires you to plan ahead and set aside money on your own. Unless you’re disciplined about your budget, you run the risk of overstretching your finances. 

Potential for missed payments

An escrow account ensures your property taxes and homeowners insurance are paid on time. Without an escrow account, you are solely responsible for those payments. If you forget to make a payment, you run the risk of late fees and lapsed coverage. 

Fees

With some lenders, there is a fee to remove the account from escrow. In general, the fee is a percentage of your remaining balance. Depending on the lender, the fee ranges from 0.125% to 0.25% of the loan principal.

How to transition from escrow to paying homeowners insurance directly

If you decide that it makes more sense to make direct payments for homeowners insurance, you can start the escrow removal process: 

1. Review your mortgage agreement: Review your mortgage documents to find out if you can exit escrow. 
2. Pay down your mortgage: If you can exit escrow, you typically can only do so once you’ve built at least 20% equity in your home. 
3. Contact the lender: Contact your mortgage lender to request an escrow removal and review the lender’s specific requirements. 
4. Provide insurance: If you have a mortgage, the lender will require you to provide proof of insurance, such as your homeowners insurance binder or statement of coverage. 
5. Ask for confirmation: Ask the lender to send a written notification that the escrow account was ended and you’re responsible for making your payments directly to your insurer. 

Escrow vs. direct insurance payment: Which method is better? 

There’s no one-size-fits-all solution. Whether it makes more sense to pay through an escrow account or pay it yourself depends on your habits. 

If you tend to have a good handle on your finances and are financially able to set aside funds—and resist the temptation to spend them—it may make more sense to pay homeowners insurance directly. 

However, if you find it difficult to save a lump sum, an escrow account may make it easier to keep up with your homeowners insurance premiums and property taxes. 

 

Related Articles