In September, Caroline Hernandez, a Florida homeowner, received notification from her mortgage lender that her escrow account, which held money to pay her homeowners insurance and property taxes, had decreased by $3,522 because her insurance premiums had increased.
The shortage meant Hernandez's mortgage payment would increase by $800 a month if she didn't prepay the entire shortfall. She did it with her savings, but six months later her escrow was again short by $1,792, which she again paid from savings.
“Florida is talking about another 40 to 60 percent increase in home insurance,” Hernandez said. “I can't afford another shortage.”
The scenario is now not uncommon for homeowners. In an unpublished 2023 JD Power survey, made available exclusively to Yahoo Finance, 56% of homeowners said their escrow payment had increased over the past 12 months, up from 51% in 2021 and 49% in 2021 year 2020.
The shortages reflect increases in home insurance premiums due to natural disasters and inflation, as well as higher property tax assessments after home prices soared during the hot pandemic housing market. However, the deficits are putting a financial strain on some homeowners whose budgets were already stretched due to last year's inflation.
“Modifications to escrow accounts are impacted by taxes and insurance, so any unexpected material increases will definitely create shortages,” Craig Martin, executive managing director and global head of wealth and lending intelligence at JD Power, told Yahoo Finance.
“Increases in insurance and taxes could cause some borrowers to become unaffordable, but such a situation is likely to be more of an extreme case than a typical one,” Martin said of Hernandez. “This is not intended to downplay the negative impact on individuals, but from a broader market perspective, this is not a crisis.”
What is an escrow account?
After a homebuyer purchases a home with a mortgage, the lender typically sets up an escrow account to pay for property taxes and insurance. A portion of the monthly mortgage payment is held in this account pending tax and insurance payments, which are typically made about once a year.
“There must be enough money in the escrow account for at least two months for homeowners insurance and property taxes. Therefore, there may be a deficit if homeowners' insurance premiums rise or if an increase is needed for years to come,” said Jason Sharon, a broker. Home Loans Inc. owner told Yahoo Finance.
Lenders typically base escrow amounts on amounts paid for taxes and insurance in the prior year. However, these amounts may differ, which may prompt the lender to increase the monthly payment or charge a lump sum to meet their minimum escrow balance.
The insurance component
According to analysis by S&P Global Market Intelligence, homeowner insurance premiums increased 10.72% in the first quarter of 2022. There are two main reasons for this increase: inflation and the increasing frequency of natural disasters due to climate change.
On the inflation side, the cost of building materials and labor has been rising steadily and has been exacerbated during the pandemic due to supply chain issues and health precautions.
The average cost of building a typical single-family home last year was $153 per square foot, according to a policy survey conducted by the National Association of Home Builders. That was the highest level in the history of this series, up 43% from $114 in 2019.
This affects homeowner insurance coverage or the cost of repairing or rebuilding the home from the ground up. According to the insurer Progressive, this replacement value usually differs from the fair market value of the house.
“The reality is that inflation has increased the cost of every aspect of a home insurance claim [and] It costs more and takes longer to rebuild homes after a covered loss,” Mark Sektnan, vice president of state government relations for the American Property Casualty Insurance Association (APCIA), told Insurance Journal.
And these losses are even more common in many areas where natural disasters are more frequent and intense due to climate change. A CoreLogic study estimates that annual losses nationwide could reach $23.5 billion per year by 2050.
“The connection between climate risk and property damage is becoming increasingly clear [and] underscores the urgency of solutions that address the complex intersection between climate change and real estate trends,” Anand Srinivasan, executive director of research and development, product marketing and innovation at CoreLogic, told Yahoo Finance.
As costs increase, insurers pass them on to homeowners in the form of higher premiums.
“This is an evolving situation and it's possible that homeowners' mortgage payments could change in the future due to increased hazard insurance premiums, particularly in disaster-prone areas with hurricanes, wildfires and flooding,” Scott Sheldon, branch manager at New American Funding, told Yahoo Finance.
In some cases, insurers are exiting certain markets altogether. For example, State Farm recently announced it would stop issuing new policies in California due to the threat of wildfires, and last year AIG announced its intention to exit the California homeowners market.
Florida homeowners are also feeling the financial crisis of premium increases and are scrambling to find insurance coverage as insurers exit the market. Citizens, Florida's state last-resort insurer, recently announced it was shedding customers.
“In the coastal areas, there have been big changes in insurance companies willing to keep this risk in their portfolios, and several insurers are pulling out of the coastal areas along the east coast, such as in South Carolina, when UPC stopped providing coverage,” said Sharon.
When there are fewer insurers, “the market moves more towards a geographic monopoly,” Sharon said, and there is little competition to help curb premium increases.
The basic control component
“Property taxes are another factor, and in some areas — like Idaho — that's already there,” Sheldon said. “States that don't have property taxes can see increases in property taxes because people who come to their state from other states make tax assessments.”
The pandemic real estate boom and the ability to work remotely drove domestic migration to certain areas, raising house prices in those local markets.
“Property taxes are related to property value, so some homeowners aren't going to feel that right now because states assess property taxes at different times,” Janelle Fritts, a former policy analyst at the Tax Foundation, told Yahoo Finance.
But for some homeowners, the rise is already underway.
Last year, $339.8 billion in property taxes was collected on single-family homes in 2022, up 3.6% from $328 billion in 2021, according to ATTOM, which tracks land, property and housing data curated. That was more than double the 1.6% increase seen in 2021.
That equates to $3,901 for an average single-family home, up 3% from a 1.8% increase a year ago.
Even if your state has low property taxes, your location within that state may have higher property taxes. According to the Tax Foundation, state tax revenues account for 31.1% of property taxes, while local tax revenues account for 71.7%.
For example, according to a study by LendingTree, homeowners in San Antonio, Texas pay an average property tax of $3,941, while homeowners in Austin pay the fifth-highest property tax in the United States, paying an average of $6,397.
“Because it's also a local tax, property taxes will vary within states,” Fritts said.
How homeowners can reduce their costs
According to a nationwide survey, high inflation is affecting Americans' budgets and causing many to make financial sacrifices. According to a nationwide survey, 57% are turning to savings to deal with the rising cost of living.
“Most states have property tax limitations through a tax rate or duty cap [and] These caps help protect against rising inflation,” Fritts said.
Some states and localities have property tax break programs if you have a disability, limited income, are a veteran, or are a senior. These are known as property tax exemptions.
Although homeowners can appeal a property tax notice, hiring an attorney can be costly.
When it comes to reducing homeowner insurance premiums, homebuyers should be proactive before purchasing their home, especially if they are in a disaster-prone area.
“Homebuyers should make sure they get all the information from the seller of the home,” Sheldon said. He recommends asking the following questions:
Is your home in a fire zone and to what extent?
How far away is the nearest fire zone and does your home's proximity to it affect hazard insurance premiums?
Is your home in a flood plain and how close is the nearest flood plain? If it's nearby, have a surveyor make sure the house is outside of a floodplain.
If you're already in your home or looking for a new insurer, there are options.
According to the Insurance Information Institute, homeowners insurance coverage is based on the cost of rebuilding your home, not the property. So don't include the value of the property in the replacement cost to lower your premium.
Other ways to lower your homeowners insurance premium include increasing your deductible, using a replacement cost estimator, and reducing the amount of your personal home insurance because the average homeowner doesn't own $250,000 of personal property, Sharon said .
If you increase your deductible and live in a disaster-prone area, there can be consequences.
“If a hurricane hits, I might have to sell my house because my deductible would mean paying $30,000 out of pocket before insurance would cover it,” Hernandez said.
Ronda Lee is senior personal finance reporter at Yahoo Finance and an attorney with experience in the legal, insurance, education and government sectors.
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