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ESCROW. WHAT IS IT?

Writer's picture: Lonnie WhiteLonnie White

Updated: Oct 25, 2021

By Lonnie White


If you're a seasoned investor, or if you've previously purchased a home, it would be safe to say that you understand what an escrow account is. For many others though, the concept of escrow is intimidating and unfamiliar. So what exactly is escrow? Continue reading for our in depth explanation of understanding escrow!


WHAT IS ESCROW?


Escrow is a financial tool which allows money or assets to be safely held by a third party entity on behalf of two other entities during a transaction process. Escrow accounts are managed by escrow agents who are tasked with holding the money or assets until certain contractual obligations are met. Escrow is used when there is uncertainty regarding when one or both parties will be able to satisfy their contractual obligations.


Example:


Jim ordered a diamond from Jane for $10,000. Jim places $10,000 in escrow until the diamond arrives and is deemed to be legitimate. After verifying the diamond is real, the escrow agent releases the $10,000 to Jane.


In this case, Jim placed his money in escrow to assure that the diamond was real. Using an escrow account protected him from a potentially fraudulent transaction. His $10,000 was held safely until his goods were verified.


How is Escrow used in Real Estate?


In real estate, a buyer places funds in escrow to secure a property while performing due diligence. Also, a seller requests that a buyer deposit money in escrow to assure that they have the funds to purchase. In this case, escrow serves to protect both the buyer and the seller.


HOW MUCH IS ESCROW WHEN BUYING A HOUSE?


When buying a home, escrow is generally 1%-2% of the purchase price. As a buyer, you want to demonstrate that you are not only serious about purchasing, but that you also have the funds situated to successfully close on the property. As mentioned previously, after depositing the escrow, the seller will remove their home from the market and allow you, the buyer, to perform any due diligence (inspections, appraisals, etc.) required to close.


IS MY ESCROW DEPOSIT PROTECTED?


Whether you're a seller, or a buyer, it is very important to clearly define who receives the escrow deposit in the event things fall apart. The managing escrow agent will only act in accordance with the contract when disbursing escrow deposits, and in the event of a dispute, the escrow may be held until an agreement is reached between the parties. Typically, a designated inspection period will allow the buyer a specific amount of time to perform due diligence when purchasing a house. If the buyer decides to back out of the deal during or prior to the expiration of this inspection period, the deposited funds are reverted back to the buyer. If the buyer does not cancel the contract within this timeframe and they decide not to follow through with the purchase, the escrow is disbursed to the seller. Initially, this concept may seem strange, but remember that the seller removed their house from the market and potentially missed out on other opportunities in hopes of the buyer closing on their home. In this case, the seller is rewarded the escrow for their time wasted. PLEASE UNDERSTAND THE STIPULATIONS OF YOUR ESCROW AGREEMENT. THIS IS VERY IMPORTANT!


*If you have any questions, please feel free to reach out to our team. We are always available to assist you with your real estate needs.*





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