Painful Property Taxes
by Gary Foreman
Dear Dollar Stretcher,
My husband and I own our home and pay our mortgage bi-monthly. We pay our property taxes twice a year and in our area it comes up to almost $400 each spring and autumn. That's a lot of money to come up with extra during those times. A friend mentioned that she had her property taxes somehow 'worked into' her mortgage payments and it didn't increase them very much. This is something we'd like to look into, but weren't sure about the details. Can you advise if this is a 'smart' thing to do and what exactly this process is called and how it works.
Kim in Indiana
Good question! Kim's friend has her taxes "escrowed" as part of her mortgage payment. Chances are that Kim's friend didn't ask for this service. Some lenders insist on increasing your mortgage payment by enough to cover both taxes and property insurance.
The mortgage company doesn't do it as a convenience for the homeowner. They do it to protect themselves. Their loan to you is secured by your home. They don't want to find out that the county is about to foreclose for back taxes or that it's burned down and you didn't have fire insurance. By making the payments themselves, the mortgage company feels safer.
But Kim needs to know that whether she pays her taxes in two big installments, or the mortgage company breaks it down into 12 smaller monthly amounts the total that she pays will be the same. Kim won't get a discount just because the mortgage company pays her taxes. All they're doing is estimating the annual tax bill and dividing by the number of months between bills.
The mortgage company will add that amount to your monthly payment for principal and interest. The extra money is set aside and when the taxes come due the mortgage company will pay the bill for you. A pretty straight forward operation.
OK, so if Kim wanted to break her tax bill down into monthly installments how could she do it? One option would be to approach her mortgage company and ask if they'd set up an escrow account for her.
Or she could set up something that acts like an escrow account herself. The simplest way is to set aside enough money each month to cover the tax and insurance payments when they're due. That way there's no struggle to find the money when the bills come in. If Kim's afraid that the extra money will be spent before tax time, she can put it into a separate savings account.
Should Kim escrow money for her property taxes and insurance? Yes, she definitely should set aside a little money each month to pay for taxes and insurance. That's a good idea for any homeowner.
Even though it's expected, when the property tax bill arrives it still can be quite a shock. In many parts of the country it's not uncommon for property taxes to be thousands of dollars each year. That's a big hit on your checking account if you're not prepared. It's more affordable to set aside a portion of the bill each month.
But, that still leaves the question of whether she should have the mortgage company escrow the money for her or do it herself. There are a couple of disadvantages of having someone else escrow your insurance and taxes.
First, if you write and mail the check yourself, you can be absolutely sure that it's been done. No chance that an careless employee of the mortgage company forgot or made a mistake. It doesn't happen often, but occasionally a mortgage company goofs.
Another advantage is that you have more flexibility. You may find that for your family it's easier to set aside the money every other month or once a quarter. Forced monthly escrow payments don't allow for that.
You'll also have more flexibility if you need to adjust your insurance policy. Especially changing insurance companies. If the mortgage company is making your payment they'll need to be informed of any changes. Not a big problem, but still one more thing to do. Or one more thing that could keep you from shopping for lower insurance rates.
Also, the money that's in escrow might not earn competitive interest. At today's lower interest rates it's not a huge deal. But it's always better to have your money earn a little more for you.
Whether it's 'smart' or not really depends on your personality. If you're sure that the money will be available or prefer to know that you wrote the check, then it's best to do it yourself. However, if you're the type that might not have the money available, then having your mortgage company escrow the money each month could bring peace of mind.
Gary Foreman is a former financial planner and purchasing manager who founded The Dollar Stretcher.com website and newsletters in 1996. He's been featured in MSN Money, Yahoo Finance, Fox Business, The Nightly Business Report, US News Money, Credit.com and CreditCards.com. Gary shares his philosophy of money here. You can follow Gary on Twitter. Gary is also available for audio, video or print interviews. For more info see his media page.
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