Why Escrow May Not Cover Your Full Insurance Bill

When you take out a mortgage, many lenders require or encourage what is commonly called an escrow account. A mortgage escrow account is one where your lender holds part of your monthly payment in a separate account to pay certain recurring property-related bills on your behalf, such as property taxes and homeowners insurance.

Despite the best intentions to avoid it, it is possible for homeowners to discover that the escrow portion of their payment is insufficient to fully cover the insurance premium when it comes due. Here are a few reasons why you might end up paying “out of pocket” despite escrow:

• Premiums increased after your escrow amount was set. If your homeowners or property insurance premium increases but your escrow account was funded based on last year’s lower premium estimate, there will be a gap when the bill comes due.
• Escrow estimates may lag real time. Lenders often estimate based on prior year bills and anticipated increases. If costs jump more than anticipated, the escrow will fall short.
• Changes in coverage or risk factors. If your insurer changes your coverage, raises your deductible, or your property risk profile changes (e.g., you added a pool, you live in a higher hazard zone) that could increase premium beyond what was estimated by escrow.

It’s wise to anticipate annual insurance increases and monitor your escrow analysis statement to see if your payment will go up. If you expect an upcoming insurance increase (e.g., your property insurer just renewed your policy at a higher rate), you may want to request your lender perform an escrow analysis early or prepare for the increase. Even with escrow, consider setting aside additional funds each month in anticipation of possible increases.