When you buy a home, your lender may set up an escrow account to collect money for homeowners insurance and property taxes from your mortgage payment. The escrow account is then used to make these payments when they are due. The term “aggregate adjustment” refers to a calculation the lender uses to make sure the correct amount of money is collected in the escrow account. The federal government prohibits lenders from withholding more money than is needed in the account beyond a cushion that can be collected to avoid a negative balance.
Benefits of Escrow Accounts
If you use a Federal Housing Agency mortgage and put down less than 20 percent, you usually have to put money into an escrow account. Many conventional loans have the same requirement. Without an escrow account, you save and pay your real estate taxes and homeowner’s insurance once a year in one lump sum. With an escrow account, you pay the lender one-twelfth of your annual homeowner’s insurance and real estate tax bills every month as an add-on to your mortgage payment. Your lender then pays the tax and insurance bills in one lump sum.
What Is an Aggregate Adjustment?
When you get approved for a mortgage the lender must give you a good faith estimate that shows your initial escrow deposit. However, between the day you receive the estimate and the day you close, many things can change. Your homeowner’s insurance or real estate taxes may be more expensive than the lender thought or you may need to buy flood insurance. When you close, your lender will determine your aggregate adjustment calculation to make sure you're not contributing too much to your escrow account. After that, your lender will calculate a follow-up aggregate adjustment to your escrow account at least once a year.
Understanding Escrow Account Transactions
Federal law mandates that your escrow account should not have any more than a two-month cushion for taxes and insurance at any given time. However, your lender will do what is necessary to avoid a negative escrow account balance since that would represent an additional amount of money loaned. This is why lenders estimate the amount of money you will need to deposit into the account over the year. To avoid the escrow balance going into the red during the year, the account may need to be seeded with more money at the beginning of the year. If the account will end up with more than two months worth of contributions after making payments, the payments should be lower. The aggregate adjustment makes sure that that the correct amount has been withheld, avoiding both too much and too little being left in the account at any time during the year.
Escrow Adjustment Calculation Example
The lender determines your annual real estate tax bill is $3,000 and your homeowner’s insurance bill is $250. When you make your mortgage payment, one-twelfth of this amount, $270.83, will be moved into your escrow account each month. The lender is also allowed to collect a two-month cushion, which increases the account balance by $541.67. If you are scheduled to have six months of escrow payments before your tax bill comes due, you will have 6 x $270.83 in the account, or $1,624.98, in addition to the $541.67 cushion. This brings the account balance to $2,166.65 before your lender makes the tax payment for you and a negative balance of $833.36 after the payment. Therefore, your lender will adjust your initial escrow balance up by $833.36. Your aggregate adjusted escrow balance is $1,375.02, reflecting coverage the negative balance amount plus a new two-month cushion.
Tiffany C. Wright has been writing since 2007. She is a business owner, interim CEO and author of "Solving the Capital Equation: Financing Solutions for Small Businesses." Wright has helped companies obtain more than $31 million in financing. She holds a master's degree in finance and entrepreneurial management from the Wharton School of the University of Pennsylvania.