Your Escrow Account May Hold Only Two Months' Cushion. A Shortage Letter Has to Offer You Twelve Months to Repay.

Most homeowners with a mortgage do not pay their property tax or homeowner's insurance directly. The servicer collects a twelfth of the year's expected bills with each monthly payment, holds it, and pays the bills when they arrive. When the bills rise — as tax assessments and property insurance premiums have — the escrow portion of the monthly payment rises with them, and a letter arrives explaining a shortage. Regulation X, the Consumer Financial Protection Bureau's rule implementing the Real Estate Settlement Procedures Act, sets what that letter may demand.

What the servicer may collect

Section 1024.17 states the ceiling plainly. During the life of the account the servicer may charge a monthly sum equal to one-twelfth of the total annual escrow payments it reasonably anticipates making, plus an amount to maintain a cushion no greater than one-sixth of those estimated annual payments. One-sixth of a year is two months. Loan documents or state law may set a lower cushion; they cannot set a higher one.

All servicers must use aggregate accounting — the composite method, which looks at the account as a whole rather than at each escrowed item separately. Under it, the lowest monthly target balance projected for the year must be less than or equal to one-sixth of estimated annual disbursements. That lowest point, not the average, is what the cushion limit governs.

The four words that matter in the letter

Regulation X defines each term the annual statement uses.

• Surplus: the amount by which the current balance exceeds the target balance at the time of the analysis.
• Shortage: the amount by which the current balance falls short of the target balance.
• Deficiency: the amount of a negative balance — the account has gone below zero.
• Escrow account computation year: a 12-month period the servicer sets, beginning with the borrower's initial payment date and repeating unless a short-year statement is issued.

The distinction between a shortage and a deficiency is not cosmetic. A shortage means the account is positive but thinner than projected. A deficiency means the servicer has advanced its own money, and the rule requires it to perform an escrow analysis before seeking repayment of the deficiency.

Surplus: $50 is the dividing line

A surplus of $50 or more must be refunded to the borrower within 30 days of the analysis. Below $50, the servicer may refund it or credit it against the next computation year's payments, at its option.

Shortage and deficiency: the repayment options

The rule gives the servicer a menu, and the size of the gap determines which options are on it.

• Shortage under one month's escrow payment: the servicer may let it remain, require repayment within 30 days, or require repayment in equal monthly payments over at least 12 months.
• Shortage of one month's payment or more: the servicer may let it remain, or require repayment in equal monthly payments over at least 12 months. The 30-day demand is not available.
• Deficiency under one month's escrow payment: the servicer may let it remain, require repayment within 30 days, or require repayment in two or more equal monthly payments.
• Deficiency of one month's payment or more: the servicer may let it remain, or require repayment in two or more equal monthly payments.

The practical consequence of the second line is the one most worth knowing. A shortage equal to a month's escrow payment or more cannot be demanded as a lump sum within 30 days. It has to be spread over 12 months or longer, or left alone.

The condition attached to all of it

Every one of those surplus, shortage and deficiency rules applies only if the borrower is current — defined as payments received within 30 days of the due date. Where the borrower is not current, recovery follows the loan documents rather than the regulation's schedule, and the servicer may retain a surplus under those documents.

The statements and when they arrive

An initial escrow account statement is due at settlement or within 45 calendar days of settlement where escrow is a condition of the loan, and within 45 calendar days of establishment where the account is set up later. The annual statement is due within 30 days after the computation year ends, and the servicer must also send the prior year's projection or initial statement alongside it.

The annual statement's required contents are specific: the current and prior monthly payment amounts with the escrow portion of each, the total paid into and out of the account, the ending balance, and how any surplus, shortage or deficiency will be handled. If the projected low balance was not reached, the statement must explain why. Separately, the servicer must notify the borrower at least once during the computation year if a shortage or deficiency exists.

This article summarises a federal regulation for general explanation. A specific escrow account is governed by the servicer's analysis, the loan documents and applicable state law.