What is Escrow

In a significant transaction, you may wonder if you can trust the person on the other side of the deal. That’s a common situation in a world where we frequently buy from people and businesses that we don’t know anything about. But understanding the concept of escrow can help you minimize your risk and move forward more comfortably. Whether you’re dealing with a real estate transaction or an online sale, it’s worth learning what escrow means and how it works.

Escrow is an arrangement where you use a “third party” (somebody who is neither the buyer or seller) to hold something of value. That third party helps to make the transaction safer by ensuring that both the buyer and seller meet their obligations.

Ideally, the escrow provider is a disinterested (or neutral) third party who doesn’t care whether the buyer or seller comes out ahead. The job of an escrow service is simply to ensure that everybody sticks to their end of the bargain.

When you agree to buy or sell something, you agree to do certain things: The buyer will pay the agreed upon amount by a specific time, and the seller will provide the asset being sold. Of course, most transactions are more complicated than that. For example:

* The buyer might want the right to inspect the property or goods she is buying before paying.
* The seller might want some assurance that she’ll actually get paid (or have the opportunity to move on if the deal is not happening quickly enough).
* The item being sold might be a service instead of a product.

An escrow company can provide that service, ensuring that everybody does what they agreed to do, and acting as a middleman to safeguard assets in the process.

That’s why it’s important to use a trusted third party—a big-name escrow provider or a service provider recommended by your real estate agent.

Escrow opens when a signed agreement is delivered to an escrow officer, who helps to ensure that the conditions of the contract are all satisfied. For example, the escrow provider will verify that inspections, disclosures, and objections are completed or resolved on time.

Escrow closes when everything is done and the property ownership transfers to the buyer.

During the agreement stage of the transaction, both parties involved will usually negotiate who pays escrow fees as well as any conditions either party has that needs to be fulfilled by the other. Either the buyer or seller pays for escrow, or sometimes both of them share the cost of the escrow fee. It depends on the county in California you are purchasing property in. In most California counties, the buyer and seller split the escrow fees. However, some counties specify which party pays the escrow fees:

Counties where Buyer pays Escrow Fees:
– Alameda
– Contra Costa
– Lake
– Marin
– Mendocino
– Napa
– San Francisco
– San Mateo
– Solano
 – Sonoma

Counties where Seller pays Escrow Fees:
– Sacramento
– San Benito
– Santa Clara
– Yolo (exception: in the city of Davis, California, the buyer pays)

In situations where the asset being traded is rejected or the transaction is cancelled following acquisition of funds, the buyer is held accountable for paying the escrow fees and any other related costs, such as shipping and return shipping.

The costs you pay for using an escrow service are small compared to the added security and legitimacy it brings to the transaction. In every escrow transaction, a closing cost is usually charged to either party. The closing cost is exactly what it sounds like – the fees for closing a real estate transaction. At this point, the title to the property is transferred to the buyer.

In some situations, funds may be continuously held back in escrow after the ownership of a property or asset is transferred to its new owner. An example of this would be if you were to find something wrong with the property at the very last minute. The seller agrees to cover the repairs needed, but the project could not be finished before the final day of transaction. The money may be held back in escrow to pay for the repairs.

Closing costs:
Encompass all fees associated with finalizing a real estate transaction, including title insurance, appraisal fees, lender fees, and escrow fees. 

Escrow fees:
Specifically refer to the fees paid to the escrow company, which is responsible for holding funds and managing the paperwork during the closing process. 

Once both parties have completed all the paperwork and all payments have been verified, the escrow agent will disburse the funds to the seller and the property deed or asset title to the buyer. To make the transaction official, the escrow agent will also record the paperwork with the county and state so the new property ownership is recognized by governing bodies.
Both parties will also get their copy of the final closing statement through mail. Once received, make sure to check the contents of the statement for its accuracy. If any errors are identified, contact the closing agent immediately. If no errors are found, safely store the statement along with other vital paperwork.

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If you’re purchasing or selling real estate, you’ll likely hear about escrow—an arrangement commonly used to manage funds after an offer has been accepted on a home sale. Learn what escrow is, what it commonly looks like in real estate transactions, and why that matters for buyers and sellers. Here are some reasons for using escrow accounts, how they work, and what they may cost.

Escrow is an arrangement where you use a “third party” (somebody who is neither the buyer or seller) to hold something of value. That third party helps to make the transaction safer by ensuring that both the buyer and seller meet their obligations.u003cbru003eu003cbru003eIdeally, the escrow provider is a disinterested (or neutral) third party who doesn’t care whether the buyer or seller comes out ahead. The job of an escrow service is simply to ensure that everybody sticks to their end of the bargain.u003cbru003eu003cbru003eWhen you agree to buy or sell something, you agree to do certain things: The buyer will pay the agreed upon amount by a specific time, and the seller will provide the asset being sold. Of course, most transactions are more complicated than that. For example:u003cbru003eu003cbru003eThe buyer might want the right to inspect the property or goods she is buying before paying.u003cbru003eThe seller might want some assurance that she’ll actually get paid (or have the opportunity to move on if the deal is not happening quickly enough).u003cbru003eu003cbru003eThe item being sold might be a service instead of a product.u003cbru003eWho is the “referee” when you sign a complicated agreement? An escrow company can provide that service, ensuring that everybody does what they agreed to do, and acting as a middleman to safeguard assets in the process.u003cbru003eu003cbru003eThat’s why it’s important to use a trusted third party—a big-name escrow provider or a service provider recommended by your real estate agent.

At different stages of a home purchase, the use of escrow accounts (sometimes called “impound accounts”) has benefits for the homebuyer and if the home is financed, the mortgage lender.u003cbru003eu003cbru003eProtection for Buyersu003cbru003eu003cbru003eThe first way escrow is commonly used in real estate is to hold earnest money. This is a deposit made by a buyer after signing a purchase agreement, and it demonstrates a serious intention to buy.u003cbru003eu003cbru003eNoteu003cbru003eAs a buyer, if deal requirements are not met, you can recoup your earnest payment, but if you break your agreement for a reason not specified in the contract, you will forfeit your deposit.u003cbru003eu003cbru003eProtection for Lendersu003cbru003eAnother way escrow accounts are commonly used in real estate is by mortgage lenders. After a home sale is completed, rather than rely on the borrower to pay property taxes, mortgage insurance, and home insurance premiums on time, many lenders add the estimated costs into monthly mortgage payments. The mortgage servicer then deposits these “extra” funds into an escrow account and takes responsibility for paying the bills on time.u003cbru003eu003cbru003eSo how exactly does this process help protect the lender? Let’s look at two scenarios.u003cbru003eu003cbru003eu003cstrongu003eScenario 1u003c/strongu003e:u003cstrongu003e u003c/strongu003eMiguel, the buyer, procures a mortgage to purchase a home. His lender does not require an escrow account, so he simply pays his monthly mortgage payment (principal plus interest). But money is tight, so Miguel doesn’t save for taxes and insurance premiums, and cannot pay them. Money gets tighter, Miguel no longer makes mortgage payments, and it’s time to foreclose. Since the house was collateral, the lender can sell it to make up the unpaid portion of the loan. Now, however, there’s a lien on the property for back taxes. In order to sell, the lender has to resolve the lien, costing extra time and money.u003cbru003eu003cbru003eu003cstrongu003eScenario 2:u003c/strongu003e Another buyer, Haleigh—also responsible for paying her own taxes and insurance without an escrow account—keeps up mortgage payments and taxes but neglects to pay home insurance premiums. Coverage lapses. So when her home is destroyed in a fire, not only does Haleigh lose everything without insurance to pay for rebuilding, but the now-vacant property is no longer sufficient collateral to help the lender recover the balance of her loan.

Now that we know why escrow is important in real estate, let’s look at some of the specifics you may encounter in the home sale process.u003cbru003eu003cbru003eu003cstrongu003eUsing Escrow for Earnest Moneyu003c/strongu003eu003cbru003eIf you’re buying a home and making an earnest money deposit, ask your real estate agent about their typical process for this. Some real estate agents and brokers may manage the escrow process for you; you may need to set up escrow for yourself; or the title company you plan to use for closing may handle the deposit.u003cbru003eu003cbru003eu003cstrongu003eNoteu003c/strongu003eu003cbru003eIf you pay an earnest money deposit directly to a seller, it could be very difficult to retrieve that money if the sale falls through.u003cbru003eu003cbru003eBoth buyers and sellers should make sure the purchase agreement specifies the conditions if the earnest money is returned or forfeited. For example, if the sale falls through due to issues found on an inspection, will the buyer receive the deposit back? What about if financing falls through?u003cbru003eWhen it’s time for the sale to close, the earnest money will be released to count toward the total purchase price. Until that point, using escrow protects the buyer’s deposit.u003cbru003eu003cbru003eu003cstrongu003eUsing Escrow for Ongoing Taxes and Insurance Premiumsu003c/strongu003eu003cbru003eMany lenders require escrow, and in some cases, escrow may be legally mandated. If your lender does require escrow, the mortgage servicer will manage the escrow account and pay the taxes and insurance fees when they are due.u003cbru003eu003cbru003eu003cstrongu003eNoteu003c/strongu003eu003cbru003eEven with escrow, you will likely still receive notices of property taxes and insurance premiums. The statements may say that they are not bills, and that your lender has already been notified. If you’re not sure whether the lender has been notified, however, it’s a good idea to contact your mortgage servicer.u003cbru003eu003cbru003eu003cstrongu003eUnderstanding Escrow Statementsu003c/strongu003eu003cbru003eLenders are required to give borrowers their closing disclosure documents at least three days before a sale closes so buyers have time to review details of their financing and ask any questions. When escrow is included in the loan, these documents will include an initial escrow disclosure statement.u003cbru003eYou should see the following projections on your initial statement:u003cbru003eu003cbru003e * Total monthly paymentu003cbru003e * Breakdown of monthly amounts for principal, interest, and escrow fundsu003cbru003e * Anticipated monthly escrow paymentsu003cbru003e * Estimated disbursements (payments from escrow for taxes and insurance)u003cbru003e * Anticipated running balanceu003cbru003eu003cbru003eMoving forward, you should also receive an annual escrow statement from the lender detailing the previous year’s account activity and current balance, as well as projections for the next year. This statement should also specify what will happen to any surplus or how potential shortages will be resolved.u003cbru003eu003cbru003eu003cstrongu003eNoteu003c/strongu003eu003cbru003eMortgage servicers are allowed to keep a cushion in the escrow account of up to one-sixth of what they anticipate to be the annual total needed to pay the taxes and insurance.u003csupu003e7u003c/supu003eu003cbru003eWhen there is a surplus in the account at the end of the year, you may receive a refund from your servicer for that amount.

If your lender doesn’t require you to have an escrow account, it’s a good idea to request one. That way, you’re not surprised or unprepared when the time comes to pay taxes and insurance premiums, which can be hefty. If you need to open your own account, contact the bank of your choice to let them know. They’ll collect pertinent details and help you set it up.

When closing day arrives, a portion of the closing costs will go toward escrow fees. Depending on the sale, these may be paid by the buyer, the seller, or both.u003cbru003eu003cbru003eThese fees go to a third party called an escrow agent, whom the buyer and seller have agreed to use to facilitate the paperwork, closing process, and disbursement of funds. This takes place beginning with the signing of the purchase agreement all the way until the keys are handed to the new homeowner. This escrow agent might be an attorney, a title company, or an escrow company.u003cbru003eu003cbru003eCost will vary depending on location, the escrow agent, and the terms of the sale. However, common estimates of escrow fees are 1%-2% of the purchase price of the home.

“In escrow” is a legal term that means a buyer and seller have signed a purchase agreement, agreed to terms of the future sale, and an escrow account has been opened to hold the earnest money until the title has been transferred to the new owner at closing.

There is no defined length of time for how long a house must stay in escrow, although usually, a purchase contract does specify a u003ca href=u0022https://www.thebalancemoney.com/when-the-buyer-cannot-close-escrow-on-time-4063785u0022u003eclosing dateu003c/au003e. How long it actually takes to close depends on factors such as financing details, an appraisal, a title search, inspections, and more. A house is no longer in escrow once all closing documents have been signed and the title has been transferred to the new owner

A common use of escrow is the sale and purchase of a home. Escrow opens when a signed agreement is delivered to an escrow officer, who helps to ensure that the conditions of the contract are all satisfied. For example, the escrow provider will verify that inspections, disclosures, and objections are completed or resolved on time.u003cbru003eu003cbru003eEscrow closes when everything is done and the property ownership transfers to the buyer.u003cbru003eAn earnest money deposit is probably the first time you’ll notice escrow in a home sale. The buyer writes a check payable to the escrow holder, who will either refund the money, apply it to the purchase price, or pass forfeited funds on to the seller if the buyer fails to meet any requirements. If the check was payable directly to the seller instead, the buyer would take a significant risk. In that case, there’s little to stop a dishonest “seller” from cashing the check immediately and making it difficult for the buyer to complete the purchase?

Escrow services are useful for more than just home purchases. Buyers and sellers frequently benefit from a third party watching over a transaction. Online sales are particularly risky—you’re dealing with somebody you don’t know anything about, and they might be many miles away (so taking legal action against a swindler would cost too much to be worth it).u003cbru003eu003cbru003eIt’s nice to have a huge pool of potential buyers if you want to sell something. So how can you make online transactions safe? It’s not always practical to demand that buyers send a “safe” form of payment up front—especially for expensive items—but online scammers routinely take advantage of sellers.u003cbru003eu003cbru003eTrading in marketplaces where buyers and sellers have a “reputation” can improve your chances. If you’re a buyer, you can also try to make use of your credit card’s consumer protection features.u003cbru003eAnother approach (which protects both buyers and sellers) is to have an escrow service handle the transaction. For example, a buyer and seller might agree on several terms:u003cbru003eu003cbru003e * How much the buyer must payu003cbru003e * How and when the seller will ship the goodsu003cbru003e * If (and for how long) the buyer is allowed to inspect the goods and reject them if dissatisfied with the qualityu003cbru003eu003cbru003eAfter providing those details to an escrow service, the buyer and seller just need to do what they agreed to do. If the seller never ships anything, the buyer gets her money back from the escrow provider. If the buyer says the goods never arrived (which some people claim to get things for free), the seller and escrow company can review shipping confirmations. If the buyer agreed to complete the transaction based on those confirmations and there’s proof of shipment, the escrow provider pays the seller.

An escrow account is slightly different from an escrow process, but the idea is similar. When you make your “monthly housing payments,” you probably pay for more than just your home loan. Expenses such as homeowner’s insurance and property taxes are often baked into the payment.u003cbru003eInsurance premiums and property taxes are often annual expenses (although insurance companies will certainly accept monthly payments), but lenders can’t always confident that homeowners will budget for those expenses properly. If you don’t make those payments, the lender is at risk, so ensuring that those expenses get paid is often part of your loan paperwork.u003cbru003eu003cbru003eIf you don’t have homeowner’s insurance, your house could burn down, leaving it worth less than you owe. And if you don’t pay your taxes, the local taxing authority could put a lien on your home and collect taxes due at a sale or foreclosure. If that happens, your lender would only be able to collect what’s left after the taxes are paid.u003cbru003eu003cbru003eWith an escrow account, your lender adds the monthly portion of those expenses to your monthly payment and deposits the money into a separate account. Each year, when your insurance or tax bills are due, your lender pays those bills for you from that account. So, once again, the escrow account is money held by a third party (not you or your insurance company) to make sure that you meet your obligations.

Escrow is an arrangement between two parties in which a transaction is handled by a neutral third party that manages how and when funds are disbursed.u003cbru003eu003cbru003eEscrow in real estate is used to manage earnest money, distribution of funds at closing, and payments for property taxes and insurance by mortgage servicers.u003cbru003eu003cbru003eThe use of escrow accounts offers significant protection for homebuyers and mortgage lenders.u003cbru003eu003cbru003eAn escrow agent facilitates the closing of a home sale and disperses all the funds to the appropriate parties. Escrow fees may range between 1% and 2% of a home’s purchase price.