New escrow rules may yield savings

Federal rules for mortgage escrow accounts that take effect this week are expected to save some borrowers as much as several hundred dollars in closing costs, government officials said last week.

In addition, monthly payments should eventually drop for many homeowners, but others may end up paying more.

The guidelines will be the first under the 20-year-old Real Estate Settlement Procedures Act [RESPA] to govern the way mortgage lenders calculate borrowers' monthly deposits in escrow accounts. Lenders set up the accounts, maintained through monthly mortgage payments, to ensure payment of annual property taxes, insurance and other expenses.

The rules -- effective Wednesday for loans closing on or after that date and by October 1997 for existing mortgages -- were designed to limit amounts held in escrow and stop years of inconsistencies that have caused borrowers to overpay.

After Wednesday, borrowers could save an estimated $125 to $250 in closing costs on a home, said Grant E. Mitchell, senior attorney for RESPA in the U.S. Department of Housing and Urban Development, which drew up the guidelines.

"This will give uniformity to the business, and it's going to be beneficial to consumers who will need less money at closing," Mr. Mitchell said.

He said the new rules require the lender to treat the escrow account as one large pot, and to figure monthly payments on the total amount. Currently, most lenders subdivide the account into various categories, such as taxes and insurance, and apportion the payments accordingly.

The current method, Mr. Mitchell said, "will almost always yield more money than if you do aggregate. If you look at the account as a whole, the numbers will always be less."

The accounting adjustment should reduce the upfront reserves that lenders typically require at settlement, an estimated $125 to $250 savings, Mr. Mitchell said.

And eventually many homeowners with existing mortgages will find their monthly payments reduced as well, Mr. Mitchell said. But others could end up paying more than they do now as lenders apply the new rule, he cautioned.

Lenders still will be permitted to retain a cushion of up to two months' worth of payments in an account. But if more than $50 remains in an escrow account after annual bills are paid, lenders must refund that amount to the borrower. An amount less than $50 would be applied to the account, Mr. Mitchell said.

The most common practice has been for lenders to add any surplus, no matter how large, to the account and reduce the next year's payment. The new requirement should allow lenders and borrowers to more carefully monitor the accounts. That should prevent borrowers from overpaying or coming up short and having to pay a large chunk all at once, the attorney said.

Over the next few years, as lenders switch accounting methods, an estimated $1.5 billion should be returned to consumers in the form of refunds or credits to accounts, he said.

Borrowers frequently have overpaid, often because lenders maintained high cushions with no refunds, or applied funds in escrow accounts to principal and interest, said Todd Forman, chief operating officer for Stamford, Conn.-based Mortgage Monitor Financial Services, which audits mortgage accounts and recovers overcharges for a fee.

Problems often occur when banks are taken over or sell loans to other lenders, who may use different methods to determine escrow payments, Mr. Forman said.

"In the past, this was unregulated," he said. "People didn't know what's in the escrows. The new rule will force lenders to follow the contract between the borrower and the bank."

With the rise of the secondary mortgage market, which buys loans from mortgage companies, loans are frequently sold and resold to servicers who calculate escrows using a variety of methods.

Class-action suits

The problem of overcharges was brought to HUD's attention when the attorneys general of several states filed class-action lawsuits against some lenders for collecting more than the two-month cushion allowed under RESPA, Mr. Mitchell said. In 1993, Fleet Mortgage Group Inc., one of the nation's largest mortgage lenders, agreed to pay $150 million in refunds to homeowners allegedly overcharged on their escrow accounts. Refunds included about $3.5 million to some 25,000 Marylanders.

And in 1992, GMAC Mortgage Corp. paid $100 million in refunds to homeowners.

The new rule "recognizes this is a nationwide industry," Mr. Mitchell said. "There needs to be one rule . . . so if loans are sold, the rules don't change."

But as escrow accounts come under uniform guidelines, some borrowers could end up paying more than they do now.

Downside to changes

Robert Banks, a senior analyst for Westinghouse Electric Corp., discovered the downside this past winter when he was notified that his monthly escrow payments would go up by $42 a month, or $504 a year. Looking closer, he realized that just $9 per month, or $108 annually, was due to increases in property taxes and insurance premiums.