SANTA CRUZ (July 18, 2009) - When the lender collects property taxes and homeowner's insurance from the borrower along with the monthly mortgage payment, the borrower is said to have an impound account. The reason the term impound is used is because the lender will require the borrower to pay some money into this account in advance, thus 'impounding' the money. With each monthly mortgage payment, the borrower will include one twelfth of his or her annual property taxes and one twelfth of his or her annual insurance premium. While this monthly addition to the principal and interest payment will obviously increase the payment substantially, there will be no shock of receiving a bill from the county tax assessor when it is sent out twice a year.

As half of the property tax bill comes due in early December and the other half comes due in early April, the borrower who has an impound account will be spared from scrambling to make those lump sum payments. To top it off, can you think of a more inopportune time to be making a large payment other than right before Christmas and right before income taxes are due? For a house purchased for last month’s median price here of $519,000, the semi-annual tax bill that is due December 10 and again April 10 can be $2800 or higher in Santa Cruz County. The homeowner's insurance premium is typically due once per year and can be $800 or more. That also is a big chunk to come up with.

Many borrowers choose to set up an impound account with their lender at the time the loan is originated; however, lenders are always happy to set up an impound account at anytime after buying or refinancing the home. The benefits are obvious: budgeting is automatic and there is no choice but to set money aside each month for the inevitable property tax and insurance payments. Actually, homeowners insurance, which protects the homeowner from such hazards as fire, water damage, theft, liability, etc., is required by lenders but is not required if there is no mortgage on the property. As this insurance helps protect a person's most valuable asset I am always amazed to hear of some fire or flood that financially wipes out a family because they had no insurance.

All FHA loans require an impound account and most all lenders who loan more than 80 percent of the value of a home will also require an impound account. The biggest downside to an impound account is having to pay a chunk of property taxes in advance. Depending on the time of year the escrow closes, up to 8 months of property taxes must be paid at the time escrow closes. Eight months of property taxes will add $3700 (see above example) to the cash required at closing by the borrower. This injection into the impound account will provide the lender with more than enough cash to make the required property tax payments to the County. As a rule, lenders will carry 2 extra months of property taxes in the borrower’s impound account to cover future increases. Proposition 13 protects the home’s property tax base but property taxes are allowed to creep up at the rate of 2 percent per year.

Borrowers who have the choice and choose to not set up an impound account benefit by being in charge and control of their own funds. It takes discipline to set aside these funds but those who are savers may wish to keep their money where they can have access to it. Furthermore, it is not uncommon for lenders to muddle up the bookkeeping of these impound accounts.

This column is written every Saturday by Peter Boutell, Certified Mortgage Planner and a principal at Santa Cruz Home Finance. You may reach him at (831) 425-1250 of email him at Peter@SantaCruzHomeFinance.com.