Escrow-free loans raise questions
granted waivers from mandatory escrow accounts have had good to excellent credit scores and substantial down payments — often 20 percent or more.
Opening the door to escrow-free status for borrowers who don't fit this profile is raising eyebrows in the mortgage field. Michael Fratantoni, chief economist for the Mortgage Bankers Association, said it would be "a troubling development" if large numbers of new buyers with sub-par credit opted out of escrow accounts, exposing them to potential problems down the road.
A little background: Escrow accounts are standard on many conventional home mortgages in the U.S. They require the borrower to deposit money in advance for later payment of local property taxes and hazardinsurance premiums by the lender or loan servicer.
Failing to make those payments exposes the property to foreclosure.
Waivers of escrow requirements are possible for borrowers who meet lenders' criteria on financial capacity and credit, subject to a fee — often one-quarter of a percent of the loan amount.
A program now being introduced by United Wholesale Mortgage, the country's largest wholesale lender, departs from the traditional approach to escrows: It allows conventional loan applicants who have significant dings to their credit — FICO credit scores of 640 — and who make down payments as low as 5 percent to avoid escrow.
The loans are being originated for sale to Fannie Mae and Freddie Mac, the federally regulated mortgage investors.
The idea behind escrowfree loans, according to the wholesale lender, is to slash costs. On a hypothetical $300,000 first mortgage, borrowers could save $3,625 — $750 that would otherwise be paid at closing for an escrow waiver fee, $2,500 on deposits for property taxes and another $375 for insurance premiums.
But aren't there inherent extra risks when buyers with low cash and sub-par credit scores handle their own tax and insurance payments? During the super-easy credit years preceding the housing bust, many of the subprime loans that ended up in foreclosure had no escrow accounts.
There is no question that the upfront savings are attractive, especially for cash-short first-time buyers. But they better keep track of their tax and insurance due dates, and build up rainy-day financial reserves to handle economic rough spots ahead.