The use of escrow services and accounts is probably familiar to any mortgage borrower who has ever bought or sold a home in Hawaii. More than 80% of all residential transactions were completed with a neutral party handling the escrow. But what is escrow and why is it used in real estate transactions, and more? At First Hawaiian Bank, we want you to understand every step of the home buying process,  so you can increase your financial savviness. 

A good-faith, surety tool

The term escrow has been in use for more than a century as a financial tool to facilitate the exchange of money,  assets and the signing of documents between real estate buyers, sellers and their financiers. In simple terms, it’s a service provided by a neutral third-party, such as an escrow company, lawyer or notary, mortgage lender or servicer, or title agent. Interestingly though, the term escrow has many different purposes:

• Mortgage servicers remit a portion of your monthly house payment into an escrow reserve account, also known as a “mortgage impound account,’’ to cover your home’s property taxes, private mortgage insurance and hazard insurance. 
• In some cases, homeowners’ association fees are included in the escrow reserve account.
• Landlords place renters’ security deposits in escrow. 
• Housing courts frequently use escrow in the settlement of tenant-landlord disputes. 
• Escrow also is deployed for payment of general contractors and subcontractors on construction projects.
   

Think of it as a kind of surety tool that ensures parties on both sides honor in good faith their commitments and obligations in a deal.

And in a digital era in which more property sales, lending applications and decisions, and fund transfers occur remotely via the internet, it helps to understand the role escrow plays in our global economy.

Escrow keeps transactions organized and on track

These neutral third parties collect and hold funds, deeds, title papers and other vital documents until the buyer and seller have fulfilled all the obligations under their agreement. Escrow offers these benefits that: 

• All parties involved uphold the terms they agreed upon
• The paperwork is kept in order
• The funds for each party is accessible

Escrow is essentially protection, enabling both sides in a transaction to hold the other accountable for upholding their end of the agreement. It’s also a mechanism for exchanging funds or other valuable considerations once agreement terms and conditions are met.

Escrow agents, too, are required to stay at arm’s length in transactions, to avoid impropriety. For instance, a real estate agent or lawyer representing you in a transaction cannot oversee your escrow.

Escrow accounts take on different forms

While many consumers know or have encountered escrow accounts and services when buying or selling a home, what you may not know is how frequently and widespread escrow is applied to a cross-section of industries and transactions.

• Real Estate Sales Escrow: You’ve made a firm offer to buy your dream home, backed up with an earnest-money deposit which is immediately put into an escrow account where it remains until closing. Later, if you change your mind and back out of the purchase contract, you may forfeit all or part of your escrow deposit, depending on the terms of your purchase contract. If the seller backs out, your earnest deposit is returned to you.
• Mortgage Escrow: If you’ve ever financed your home with a mortgage, your lender or mortgage servicer – the entity assigned to collect your monthly payment – most likely established an escrow reserve account to hold a portion of your house payment earmarked to cover your property taxes, association fees, and mortgage- and hazard-insurance premiums. Your mortgage escrow balance may fluctuate annually, depending on increases or decreases in your property-tax assessment, owner-association fees and insurance premiums. If your balance falls into an “escrow deficit,’’ your lender or servicer will raise the escrow portion of your mortgage payment to adequately cover the deficiency. Conversely, if your mortgage escrow balance reaches surplus because your taxes or insurance premiums decreased, you can either keep the surplus in the escrow reserve account or request the surplus be refunded back to you. Banks and credit unions are not required to pay interest on escrow reserve account deposits.
• Construction Escrow: Set up like other kinds of escrow accounts, construction escrow is focused on holding and disbursing borrowed construction loan proceeds to general contractors and subcontractors on building projects. Construction escrows usually are administered by the lender or title agencies, who aside from paying vendors for their work, identify lien filings from unpaid vendors or other parties that could disrupt the project.

Now that you know the importance of escrow for buying and owning a home, let one of our First Hawaiian Bank mortgage loan officers share with you how our mortgage products and services can put you on a solid path to homeownership.