Escrow shortages are leaving homeowners with unexpected bills

Escrow shortages are one form of what are sometimes referred to as the “hidden costs” of homeownership, which include taxes and insurance, homeowners' association dues, and routine maintenance costs.

Dunn counsels his clients to make sure their housing payment is below 25% to 30% of their monthly gross income, even though they may qualify for a bigger loan. “That will allow you to prepare for that rise in your mortgage payment,” he said.

With a fixed-rate mortgage, the portion of a payment that’s applied toward principal and interest technically doesn’t change over the life of the loan. The escrow portion is usually bundled with it into a single monthly payment.

Dawn Miller, who works for the Montana Department of Revenue, has seen firsthand how rising taxes have become a growing burden for many homeowners after prices exploded in the state. In Great Falls, Mont., where she lives, the median home was listed for $414,000 in April, up from $253,000 five years ago.

“I’ve had people come into my office and cry at my front office counter,” Miller, 54, said. “They don’t know how they’re going to pay a $2,000 tax bill.”

Her own taxes have gone up, too, which added to her monthly payment before she canceled her escrow account. She purchased her home nearly eight years ago, and initially paid around $875 a month. By last year, her monthly payment was up to $1,040, even after she made a separate one-time $800 escrow adjustment payment.

She had enough equity to opt out, so Miller now sets aside money for taxes and insurance in a high-yield savings account instead. Since she now pays those expenses separately, her monthly mortgage payment is down to $740.

“It makes it easier to budget,” she said.

New home risks

Escrow shortages can affect all types of homeowners, but mortgage lenders say they can hit those who recently purchased new construction homes particularly hard.

It can take a tax assessor a year or two to recognize the value of a home that was recently built on a once-empty plot of land. That means new construction homebuyers often initially pay taxes based on their land alone, and then find themselves with a big payment increase when their property is reassessed after a year or so of homeownership.

“If you’re buying new construction, you need to put money away,” said Jennifer Hughes Hernandez, a senior loan officer at Legacy Mutual Mortgage in Houston. “You need to figure out what your taxes are going to be — what they’re supposed to be — and realize that’s probably not what’s being collected in the beginning.”

Insurance is also a growing burden for many homeowners. In recent years, insurance premiums have been rising far faster than the rate of inflation as climate change increases the frequency and intensity of natural disasters and makes it harder for insurers to make money.

Homeowners facing a big escrow shortage may have luck lowering their payments by shopping around for new insurance, though lenders say it’s important for them to understand what kind of coverage they’re getting, as some cheaper policies may have higher deductibles or provide more limited protection.

Araujo, in Alabama, also recommends keeping an eye on annual tax assessments and servicer statements. Miscalculations can happen, and assessors usually allow homeowners to file protests.

Esther Thomas, a project manager in Huntsville, Ala., was shocked when she logged into her mortgage account and discovered a $3,600 escrow shortage on a home she purchased last year. But after further review, and several marathon phone calls with her servicer, tax assessor, and others, she learned that her taxes were miscalculated when she bought the home. She ended up receiving a check for $2,000.

"It's so important to advocate for yourself," said Thomas, 33. "I didn't have $3,600 to give to anybody."

But Thomas isn’t rushing to spend the windfall. Knowing her costs are likely to rise in the future, she’s setting aside the money for future escrow payments.