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Insurance Considerations Before Moving Into Your New Home
Buying a home is a dream come true for many people. However, it can be a complex process that might leave you bewildered. There are many new terms to get used to, such as good faith estimate, amortization, origination fee, closing costs, etc.
On top of it all, you have a mountain of paperwork to sign. Many new homeowners don’t even read or understand everything they’re signing. One of the most confusing things is when your lender opens an escrow account for your homeowners insurance and property taxes.
The process is often not clearly explained. Even if you’re dealing with a top-rated, trustworthy lender, it doesn’t necessarily mean the homeowners insurance they facilitate on your behalf is the best fit for you.
In this article, we’ll cover important insurance considerations you need to be aware of before moving into your new home.
What Is Homeowners Insurance Escrow?
A traditional escrow account is typically a third-party account where funds are deposited and held before being transferred to the ultimate party. It protects buyers and sellers against scams and fraud.
Homeowners insurance escrow works slightly differently.
With homeowners insurance escrow, the intention is not to protect the homebuyer or seller against scams and fraud and the bank or lender that opens the escrow account can hardly be described as a third-party as they have a vested interest in it.
Why Does Your Lender Open an Escrow Account?
Your mortgage lender opens an escrow account and facilitates your homeowners insurance on your behalf to protect their interests.
Homeowners with a mortgage must take out homeowners insurance on the property. Lenders will typically insist that they are named in the policy. Should the property sustain damage or be destroyed due to a covered event such as fire damage, the insurance company will notify the lender who will ensure their interests are protected.
By collecting insurance premiums and property taxes from the homeowner, allocating it to the escrow account, and paying the relevant party, mortgage lenders can minimize their risk. They know their requirements are being met as they are managing the process.
How Does Homeowners Escrow Work?
Your mortgage lender opens an escrow account on your behalf. Instead of making separate payments for your mortgage, homeowners insurance premium, and property taxes, your lender combines everything into a single monthly payment. (The principal, interest, taxes, and insurance are abbreviated as PITI)
For example, if your annual homeowners insurance premium is $2,500 and your property tax is $4,500, your lender will add $583.33 to your monthly mortgage payment.
The initial annual premium will typically be added to your closing costs.
Note: Lenders will usually add an extra amount to your monthly payment to make provision for future increases in your annual property taxes and homeowners insurance premiums.
Do I Have to Pay Homeowners Insurance Through Escrow?
Whether you need to pay homeowners insurance through escrow will depend on the type of home loan you have, your credit score, and your down payment.
For a conventional home loan, you will typically be required to make at least a 20% down payment to avoid paying your homeowners insurance through escrow. For other types of home loans, such as VA loans and FHA loans, the requirements may be different.
For example, the FHA mandates that a loan insured by them comes with an escrow account.
However, even if you have to pay your homeowners insurance through escrow, it doesn’t mean you’re obliged to use the insurance company your mortgage lender is working with.
How to Change Homeowners Insurance With Escrow
It’s not difficult to change your homeowners insurance that’s being paid from an escrow account and you can change to a new insurer any time of the year, regardless of whether it’s at the end of your policy or at the beginning of it.
Once you move to a new policy, advise your new insurer of your mortgage lender and give them the information they need to request your lender to make the necessary payment changes. Note that you may get a prorated refund depending on how many months are left on your current policy.
Your lender will pay for your new homeowners insurance policy from your funds held in escrow. You will be required to pay any shortfall, if necessary.
Should You Change Your Homeowners Insurance Policy or Insurer?
One of the most common mistakes that homeowners make is that they don’t read or regularly review their homeowners insurance policy. Many don’t understand what they are covered for and what exclusions apply to them.
Regardless of whether your mortgage lender facilitated your insurance policy or whether you did it yourself, you need to be familiar with the contents of your policy. And you need to review it regularly to ensure it still meets your needs.
Here are some of the pros and cons of paying your homeowners insurance through escrow.
- Premium might be lower – Some lenders negotiate lower premiums for their mortgage holders.
- One monthly payment – Your homeowners insurance premium and property taxes are conveniently included in your monthly mortgage payment.
- Premiums paid on your behalf – Your mortgage lender pays your homeowners insurance premium and property taxes on your behalf.
- No large or unexpected annual payments – You don’t have to save for your annual premium or risk forgetting when it’s due.
- Higher closing costs – Expect higher closing costs as you need to fund the escrow account.
- Higher monthly fees – Your mortgage lender may charge you more than the actual amount for homeowners insurance and property taxes to make provision for future increases. That money could have been invested elsewhere.
- Insurance coverage knowledge – Most escrow companies will not alert you of the need to ensure your new property for additional risks like earthquakes, floods, hurricanes, hail storms etc.
Before moving into your new home, your mortgage lender may require you to fund an escrow account for homeowners insurance, property taxes, and private mortgage insurance. It is typically the case if your down payment on your home is less than 20%.
However, you can obtain a homeowners insurance policy on your own and pay it through escrow.
Regardless of how you obtain homeowners insurance, look at your declarations page to find where your current coverage may be insufficient. And if you have an escrow account, you need to monitor it. Mistakes do happen, and you shouldn’t put all your trust in your mortgage lender to manage your account.
Managing a large or complex insurance claim for a covered event can be time-consuming and present many challenges. An experienced, licensed public adjuster can help you navigate through the claims process.
In addition, a reputable public adjuster can assist you in getting the best possible settlement offer you’re entitled to under your homeowners insurance policy.
Avner Gat, Inc. has 17+ years of experience as a public adjuster in Los Angeles, covering Southern California. We protect homeowners from the games and fine print that insurance companies are known for.
Call us at (818) 917-5256 to find out how we can help you.