Impounds, sometimes referred to as reserves or escrow account, are required by the lender for insured loans, and conventional loans of more than 80% of the property’s value. Some loans will require only tax and mortgage insurance impounds, while others such as FHA and VA loans, will require both fire insurance and taxes. There are times, especially in the case of 80% loans, when impounds are required and other times when although not required, the borrower will request impounds.
Impounds are for the purpose of establishing a separate account to accumulated funds, through monthly payments, to pay taxes, mortgage insurance or fire insurance when the obligation becomes due. Despite rumors to the contrary, lenders are not always required to pay interest on these impounds. The laws governing interest to be paid have certain exemptions. Therefore, it is not wise to attempt to interpret these laws and make representations to the borrower one way or the other.
Tax Impounds: The lender will pay real property taxes, from the impound account by December 10 and April 10 each year. The lender will calculate the impound amount based on the estimated reassessed value (generally 1.25% of the sales price or appraised value) rather than the existing assessed value of the property due to the property being reassessed as a result of Proposition 13. An initial impound deposit is calculated as follows: Eight (8) months must be on deposit by the October or February 1 payment. Therefore, eight (8) months payments less the actual number of payments by October 1 or February 1 will determine the number of months to be collected at closing. Even though six (6) months on deposit is sufficient to pay the obligation, federal regulations allow two (2) additional months to be held.
Fire Insurance Impounds: The initial deposit is based on two (2) months of the initial premium as the lender will usually receive the renewal billing anywhere from 30-60 days prior to expiration of the policy. Therefore, the two (2) months deposit will give the lender sufficient funds to pay that renewal billing when received. The monthly impound is calculated by dividing the initial premium by “12”. Some lenders will not draw documents until the exact premium is known while most will estimate the premium for preparation of documents and adjust the amount at funding.
Private Mortgage or FHA Insurance: As in the case of fire insurance, the lender will collect tow (2) months of premium which is calculated on the lender’s projected renewal premium.
Impound Analysis: The borrower will receive an analysis in January each year of the activity of the loan in the previous year including status of the impound account. That analysis will contain the requirement of monthly impounds to pay obligations during the coming year. If the analysis shows the account has the potential to have a deficit at any time, the lender will increase the monthly impound payments. Likewise, an excess will be dealt with by the lender by asking the borrower to decide whether to retain the excess in the impound account or apply the excess to reduce the principal balance of the loan. Lenders vary as to how the excess is handled. Therefore, make no representations on behalf of the lender. Those questions are better directed to the lender by the borrower directly.