An escrow account associated with a mortgage is used to:

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Accepted Answer

Collect monthly payments for property taxes and homeowner's insurance. An escrow account associated with a mortgage is a separate account managed by the mortgage servicer that collects monthly payments for property taxes and homeowner's insurance (and sometimes mortgage insurance). Each month, in addition to the principal and interest payment, the borrower pays a portion of their annual property tax and insurance costs into the escrow account. When these bills come due (typically quarterly or annually), the servicer pays them from the escrow account on the borrower's behalf.

The down payment is not held in escrow throughout the life of the mortgage  -  it is applied to the purchase price at closing. While there is an escrow account used during the home purchase process to hold earnest money deposits, the mortgage escrow account described here is an ongoing arrangement for the life of the loan. Extra mortgage payments for early payoff are applied directly to the loan principal, not held in escrow. Protecting the seller's proceeds during the transaction is a function of the closing (or settlement) escrow, which is a temporary arrangement, not the ongoing mortgage escrow.

Lenders often require escrow accounts because they protect the lender's investment  -  if property taxes go unpaid, a tax lien could take priority over the mortgage, and if insurance lapses, the property is unprotected. The monthly escrow payment is included in the borrower's total housing payment, often referred to as PITI (Principal, Interest, Taxes, and Insurance). The lender periodically reviews the escrow account to ensure it has sufficient funds, and adjustments to the monthly escrow amount are common. Understanding mortgage escrow accounts is important for the DSST Personal Finance exam because they significantly affect the total monthly cost of homeownership.

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