Escrow: What it means and how it works for homebuyers in MN and WI

The path to homeownership is dotted with many complex terms, but we are here to help you become a knowledgeable homeowner.

If you’ve ever wondered what escrow is, and how the escrow process works, you’re in luck. Here, we’ll cover:

• What escrow is — and why, in Minnesota and Wisconsin, it may work differently than you are expecting
• Steps in the real estate escrow process
• How homeowners in our market use the escrow process to make mortgage and other homeowner-related payments
• How to get in touch with a home buying expert who can help you understand the escrow process and other homeowner terms that can trip you up

What is escrow, at its most basic meaning?

First, let’s make sure we are all on the same page when it comes to escrow. Escrow is a word commonly used in business dealings. It refers to when a neutral third-party holds onto something of value (including deeds, documents or money) for a predetermined amount of time during a transaction.

On a certain day — and after specific pre-set criteria are met — the funds in escrow are distributed to the agreed-upon party or parties.

What is an escrow closing?

When making an offer on a home, a buyer will show their commitment to the deal by putting down an “earnest money deposit” that is intended to be part of the final house payment.

In some markets, the deposit goes into an escrow account. The deposit and, ultimately, the remainder of the purchase price, are kept safe in that neutral account until the transaction is completed at closing. An escrow officer will hold all funds and documents and will monitor the transaction to ensure that everything is done in accordance with the agreement of the parties. This process is known as an escrow closing.

But — and this is super important — Minnesota and Wisconsin homebuyers do not participate in escrow closings. As a homebuyer, you will still make an earnest money deposit, but your funds will be sent to the listing broker for safekeeping until closing. And at that closing, you will pay the remaining amount of the purchase price directly to the seller, as opposed to placing it in escrow.

When you are going through the home buying process in Minnesota or Wisconsin, you will not typically hear about escrow or the escrow closing process.

So, will I ever pay money to an escrow account?

In Minnesota and Wisconsin, money does not go into escrow during the home purchase process. However, after the home purchase closing has occurred, most homebuyers do end up putting money into an escrow account that is maintained by their lender. So, in Minnesota and Wisconsin, escrow has more to do with owning a home, not buying a home.

To better understand the real estate escrow process in Minnesota and Wisconsin, let’s discuss how the escrow procedure works in these states — and why it is set up this way.

How does the escrow account work?

After a buyer closes on their new home, the homeowner will begin sending monthly payments to their lender.

However, this monthly payment can include more than just the mortgage payment, it might also designate funds for:

• Property taxes
• Homeowner’s insurance
• Mortgage insurance, depending on your loan’s terms
• HOA fees, if you live in a property managed by a homeowner’s association

These extra funds are kept in an escrow account by the borrower’s lender. Keep in mind that escrowing these items is not a requirement of all loans.

Why do homeowners use escrow accounts after a home purchase?

It’s in the lender’s — and the homeowner’s — best interest to ensure that the homeowner doesn’t default on additional house-related payments.

In order to ensure the homeowner is current on house-related payments, lenders will set up an escrow account and calculate how much the buyer would pay if their annual or biannual payments were divided into twelve monthly payments.

The lender then collects that sum each month, along with the borrower’s mortgage and interest payment.

When are home-related payments made from the escrow account?

When property taxes and homeowners’ insurance are paid from the escrow account, they won’t typically be paid directly by the homebuyer. Instead, home-related expenses are paid by the lender from the escrow account — which the homeowner has paid into throughout the year.

Depending on the payment due date, bills are paid at different times throughout the year, including:

• Property taxes: two installments per year, if biaunnual
• Homeowners’ insurance: annual cost
• HOA fees and mortgage insurance: paid monthly, if applicable

What are the benefits of having funds in an escrow account?

As a homeowner, there are some advantages to paying monthly contributions to an escrow account, such as:

Less to remember. By bundling your home-related expenses with your monthly mortgage payment, you’ll only have to mark one date on your calendar to pay your lender. Then, your bills will be paid, and the remainder will go in your escrow account for future payments.

It’s free! You will pay your lender for the home loan, of course, through interest. But the price of this escrow convenience is covered by your interest payments. In other words, you won’t be asked to pay extra in order to take advantage of consolidating these house-related expenses into one payment.

Standardized payments. Rather than getting hit with a big property tax payment every six months, or an annual insurance bill, you’ll pay the same amount each month and know that the money will be used when it’s needed. As your property tax rates or HOA fees change over time, your payments would also increase. You’ll receive notice of this in an annual statement from your lender, which explains the details of the year’s payments, and what to expect in the year to come.

Ready to purchase a home?

Whether you’re ready to search for a new home, or you’re interested in learning more about the homebuying process, Edina Realty Mortgage can help. Reach out to our customer care team for more support — they’re available seven days a week.

Additional resources to consider

How to determine what you can afford when buying a home
Preparing your finances for buying a home
The homebuyer's handbook
Understanding escrow

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