Plenty of expenses come with buying a home. Three of the bigger ones? Property taxes, homeowners insurance and, for many buyers, private mortgage insurance. Paying these bills can require homeowners to come up with $8,000, $9,000 or more than $12,000 a year, depending on where they live.
So the question is: Do you trust yourself to save up the money to make these payments on your own? Or would you rather have your mortgage lender collect the money to pay for your insurance and tax bills each month and then make the payments on your behalf?
If you choose the latter option, you'll enter into what is known as an escrow agreement with your mortgage lender. Under an escrow arrangement, you'll send in extra dollars with each of your monthly mortgage payments. Your lender will deposit this money into an escrow account. When your property taxes or insurance bills are due, your lender will use this money to pay them on your behalf.
This is convenient. But not every home buyer wants an escrow arrangement. Some want to pay their property taxes and insurance bills on their own, arguing that they'd rather have a lower monthly mortgage payment or that they can make better use of their dollars than watching them sit in a non-interest-bearing account managed by their mortgage lenders.
Which choice is right for you? It all depends on how financially savvy and disciplined you are.
"To make these payments on your own, you do have to be disciplined," said Staci Titsworth, regional sales manager for PNC Mortgage in Pittsburgh. "You have to make sure that you actually do set aside the money for your taxes and insurance. These are not small bills. You don't want to be surprised when the bills come. You don't want to be scrambling to come up with $6,000 at the last minute."
The PITI formula
Consumers don't always realize all the pieces that go into their monthly mortgage payment. Titsworth and other mortgage pros use the acronym PITI to explain it: If you have an escrow agreement, your money each month goes to pay off your mortgage loan's principal balance, interest, taxes and insurance -- or, PITI.
Say your property taxes for the year are estimated at $6,000. You'll pay $500 each month to cover these taxes, money that your lender will deposit into an escrow account. If your yearly homeowners insurance costs $1,200, you'll pay $100 each month, money that your lender again will deposit into your escrow account. This means that you are paying $600 extra each month to cover your property taxes and homeowners insurance.
When your insurance bills and property taxes are due, your lender dips into your escrow account to pay them for you. You don't do anything, except contribute the necessary dollars with each mortgage payment.
The benefit of this? Mortgage lenders say that convenience tops the list.
"There is peace of mind with escrow," said Doug Leever, mortgage sales manager with Tropical Financial Credit Union in Miramar, Fla. "You don't have to worry about putting that money aside."
He has a point. Tax bills and insurance payments can sneak up on homeowners if they're not disciplined enough to stow away the dollars needed to cover these bills during the year.
"There aren't any shocks," Leever said. "There's no, 'Whoops, we forgot to save and put that money aside.' You don't have people having to scramble, having to put the payment on their credit card it take it out of their savings."
Some lenders might even charge a fee to borrowers who want to pay their property taxes and insurance bills on their own. Others require that borrowers enter into escrow agreements if their loan-to-value ratios are 80 percent or higher. So, if you owe take out a mortgage loan for, say, $180,000 on a home valued at $190,000, the odds are high that your lender will require that you enter an escrow agreement with them.
The other way
Some borrowers, though, forgo escrow and handle their property taxes and insurance bills on their own. What is the benefit to that?
It mostly comes down to interest. Homeowners don't earn interest on their money when it's in an escrow account. Some owners would rather set aside their property tax and insurance money in interest-bearing accounts so that these dollars can earn money before they have to go to taxing bodies and insurance companies.
"Many homeowners are very disciplined with their finances," Titsworth said. "They allocate so much money to these payments every month. Some customers like the convenience of having a lower monthly mortgage payment and having that control over their money. It really does depend on the customer."
Which choice is right for you? You'll have to look at your own financial history. Do you already set aside enough money to cover your monthly payments? Or do you have to scramble each month to find the money to pay your credit-card bills, mortgage payments or utility bills?
If you're not financially disciplined, an escrow arrangement probably makes more sense. If you are? Then you might want to try covering your property taxes and insurance bills on your own.