May 29, 2023
When you buy a home, the deal doesn’t go through as soon as you make an offer. First, you need to make a deposit to show that you are serious about the purchase. The deposit is called earnest money.
Your earnest money will be held in a neutral third-party account, or in escrow. It may sound simple but there are some moving parts that can make home-buying seem more difficult, especially for a first-timer. Here’s what else you need to know about escrow to ensure a smooth sale.
Advertisement
Compare Mortgage Rates
See RatesThanks for subscribing!
Read the best of Moneywise in 5 minutes or less.
By signing up, you accept Moneywise Terms of Use, Subscription Agreement, and Privacy Policy.
Opening an escrow account
To deposit your earnest money, you’ll write a check and deliver it to your escrow agent, who works on behalf of an escrow company.
Serving as the go-between for the buyer and seller, the escrow company holds onto all the funds and the documents throughout the process until the sale has closed.
Once the sale has been successfully completed, the escrow company will disburse the funds.
The escrow process ensures that the title to the property isn’t transferred until all the necessary funds have been exchanged.
Must Read
- The ultra-rich use these 5 real estate strategies to build wealth while they sleep — you can start with just $100
- Here’s the average income of Americans by age in 2026. Are you keeping up or falling behind?
- Insurance companies profit most from drivers who auto-renew without shopping around. Comparing 100+ quotes takes 2 minutes and costs nothing
Join 250,000+ readers and get Moneywise’s best stories and exclusive interviews first — clear insights curated and delivered weekly. Subscribe now.
How does the escrow process work?
Let’s say Hazel puts her home up for sale and Alex makes an offer, which she accepts. Alex will then give the escrow agent his initial payment for property taxes and homeowners insurance, while he waits for the home inspection and his financing to go through.
At closing, the escrow company will ensure the funds are transferred from Alex’s mortgage lender to Hazel’s. At the same time, the company makes certain that the title for the home is passed from Hazel to Alex.
What are escrow fees and who pays them?
Advertisement
Simply put, escrow fees are part of the closing costs that come with the purchase of a house. They’re paid directly to the title company, real estate attorney or the escrow company, and kept in a secure escrow fund until they’re ready to be paid out.
The fees are for the third-party services that helped you close your loan or sell your house. For example, you can expect it to include fees for real estate attorneys, property taxes and homeowners insurance.
The fees can range from between 1% and 2% of the purchase price of the house. However, some escrow officers may offer a flat fee for their services. In the end, the costs will depend on the location of the house and which escrow company you use.
As for who pays the fees, the buyer and seller can negotiate it via their real estate agents. Although there’s no industry standard, it’s often split 50/50 between the buyer and seller.
Title report and title insurance
Aside from holding funds, one of the major purposes of an escrow service is ensuring the smooth transfer of a home's ownership.
One factor that can prevent a smooth transfer is an issue with the property’s title.
Advertisement
Because of this, your lender will require that you have a title report done and that you take out title insurance.
The report will ensure that no liens or bankruptcies are associated with the property, because those would prevent the transfer of the home.
Referring back to our example above, if Hazel had taken out a loan that put her home up as collateral, and then failed to pay it back, a lien would be placed on her home. Until she clears that debt, the home is not technically hers to sell.
Title insurance protects both the buyer and lender from any legal challenges that may pop up that a title search didn’t initially uncover.
Issues with the title are known as clouds or defects, and they are the seller’s responsibility to resolve before the sale can go through. If the seller can’t — or won’t —take care of the issues, the buyer is entitled to walk away from the sale and seek return of the earnest money that was put down.
Pros and cons of escrow
Pros of an escrow account
- Provides security and protection during the transfer of large amounts of money
- Offers an option for monthly payments for homeowners’ insurance and property taxes, instead of paying in one large lump sum
- Your mortgage lender is responsible for making automatic payments (if using escrow to pay homeowners’ insurance and property taxes), so you never have to worry if your bills are being paid on time
Cons of an escrow account
- Higher mortgage payments, if using escrow to pay taxes and insurance
- Depending on the time of year, you may be required to deposit several months’ worth of property taxes and insurance premiums when you open an escrow account
- You might miss out on investment opportunities if your money is tied up in escrow
You May Also Like
- JP Morgan sees gold hitting $6,000/oz before 2027 — and a Gold IRA lets you hold the physical metal while deferring the tax bill. Get your free guide from Priority Gold
- Dave Ramsey warns nearly 50% of Americans are making 1 big Social Security mistake — here’s what it is and the simple steps to fix it ASAP
- Thanks to Jeff Bezos, you can now become a landlord for as little as $100 — and no, you don't have to deal with tenants or fix freezers. Here's how
- Millionaires under 43 are reshaping investing — just 25% of their portfolios are in stocks. Here’s where their money is going
Sigrid is a deputy editor on the Moneywise team, where she has also worked in a number of editing and reporting roles. She has 5 years experience writing about personal finance and takes great pride in demystifying complex financial issues and finding the personal in personal finance topics.
Mortgages • Feb 17
