An escrow account is a means of safeguarding the interests of both the buyer and the seller of a property. The contents of the account are held by a neutral third party (an escrow agent), and are released only when all of the conditions of the contract between the seller and the buyer of a property are met.
Prior to closing, the escrow account is used to hold the buyer's deposit on the property, as well as earnest money (a small deposit made by the purchaser as a show of good faith, to demonstrate that the offer on the property is serious) and closing costs. To prevent closing delays, the escrow agent will usually request that these funds be paid in the form of a cashier's check or wire transfer. The escrow account will also hold the title to the property, as well as transfer documents once they have been signed by the seller. Once an escrow account has been created, the buyer and seller both have an agreed-upon period of time in which to place the deposit and the title documents into the account. When this has been done, each party will have another period of time in which they must fulfill any contingencies of the contract.
Responsibilities of the Buyer and Seller
During the escrow period, the buyer and the buyer's lender will be working on the loan approval process. This includes verifying the buyer's income level, verifying that the buyer has adequate funds for deposit and closing costs, having the property appraised, and delivering the buyer's loan documents to the escrow agent. The seller and the seller's agent also have responsibilities - the seller must prepare statutory disclosures (such as smoke detectors, environmental hazards, and zone disclosures), provide the escrow agent with information about existing loans, make sure the property is available for inspections that may be a requirement of the purchase contract, and make any repairs that have been made contingencies of the contract.
When all conditions of the contract are met, the escrow agent will close escrow, and distribute the title of the property to the buyer, and the funds to the seller. At the time of closing, the escrow agent will forward a Closing Statement to the buyer and the seller. This is a written account which details the charges and credits made to the account, including the agent's own fees. Note that this document should be kept for your own records. The statutory retention period of Closing Statements is five to seven years, and after this time most escrow agents will destroy escrow documents.
After closing has been completed and the property has changed hands, the new owner has the option to use an escrow account for another purpose. The escrow account can be used as a savings account, in which money is deposited for making payments on property taxes and insurance. Usually a mortgage lender will collect these funds and place them in the escrow account, and then pay insurance and tax bills when they are due. The mortgage lender may also hold money in reserve to cover any increases in these expenses. This reserve money is usually no more than two month's worth of payments. Using an escrow account in this way is not mandatory by law; however, it is a convenient method of ensuring that the money to pay for taxes and insurance is always set aside.