If you’re buying a home, you’ve probably heard the word “escrow” thrown around in several different contexts. While it may sound complicated, the concept is straightforward once you break it down. Escrow is essentially a financial arrangement where a neutral third party holds funds or assets on behalf of two parties until certain conditions are met. Understanding how escrow works—and the role escrow accounts play—can help you navigate the home buying process with confidence.
In real estate, escrow accounts serve two main purposes:
Because of these different functions, there are two types of escrow accounts: one tied to your home purchase and another tied to your ongoing mortgage.
When you make a good faith deposit, your escrow account ensures that your money is handled fairly. If the sale closes successfully, the deposit is applied to your down payment. If the deal falls through due to buyer-related issues, the seller may keep the deposit.
Sometimes, funds remain in an escrow account even after the sale closes, known as an escrow holdback. This can happen for several reasons—for example, if the seller remains in the home temporarily or if certain bills (like utilities) must be paid before full transfer of ownership. For new construction, funds may stay in escrow until all work is completed to your satisfaction.
Your lender may also set up an escrow account to pay your property taxes and homeowners insurance automatically. Sometimes called impound accounts, these allow you to pay a portion of your annual taxes and insurance each month as part of your mortgage payment.
Because taxes and insurance premiums can change yearly, your lender will review your escrow account annually. If they’ve collected too much, you’ll receive a refund. If they’ve collected too little, you may need to pay the difference or increase your monthly payment. Most lenders require a cushion—usually two months’ worth of extra payments—to ensure funds are available when bills come due.
Escrow accounts are managed by different parties depending on the stage of your home purchase:
With a mortgage servicer managing escrow, you don’t have to worry about remembering due dates or missing payments. The exception is if you switch insurance providers—you’ll need to provide updated policy information.
While escrow accounts are helpful, there are a few things to keep in mind:
Whether you can opt out of escrow depends on your loan type, down payment, and lender requirements. FHA and VA loans usually require escrow, while conventional loans may allow you to waive it if you meet certain criteria. Even when optional, escrow provides peace of mind by ensuring that essential bills are paid automatically and you’re not responsible for saving large sums on your own.
Escrow accounts are an important part of the home buying and ownership process. They protect buyers, assist sellers, and provide a convenient way for homeowners to manage taxes and insurance. While having an escrow account may slightly increase your monthly mortgage payment, it offers predictability, security, and peace of mind—especially for first-time homebuyers navigating the many moving parts of purchasing a home.
Disclaimer: First Western Trust is an Equal Housing Lender, NMLS #477166
This content is for informational purposes only and does not constitute legal or tax advice. Please consult your legal or tax advisor for specific guidance tailored to your situation. First Western Trust Bank cannot provide tax advice. Please consult your tax advisor for guidance on how the information contained within may apply to your specific situation.
