The material above suggests that mortgagees have a strong and legitimate concern that their mortgagors maintain and pay the premiums for casualty insurance on the mortgaged premises. Mortgagees are perhaps even more insistent that mortgagors promptly pay the real estate taxes and special assessments accruing against the property. The reason for this concern, as Professor Durfee once aptly pointed out, is that “in most tax systems the burden of the ordinary tax on land and the burden of special assessments for local improvements rest on both mortgagor and mortgagee in the sense that unless these charges are satisfied by someone before the axe falls, the interests of both parties will be rubbed out. The state goes after the land and its claim overrides all prior interest whatever their character.” Durfee, Cases on Security, p. 136 (1951) (emphasis added). In other words, a “first” mortgage on real estate will be wiped out by a sale under a subsequently a rising real estate tax lien for more information click here.
Thus, mortgages generally utilize mortgage clauses specifically imposing the duty to pay taxes and insurance premium on the mortgagor and making failure to so pay a cause for acceleration of the mortgage debt. As additional protection, many mortgagees demand that mortgagors set up accounts with the mortgagee into which the mortgagor will pay 1/12 of the annual taxes and insurance premiums each month (along with the regular monthly payment of principal and interest), and out of which the mortgagee will actually make the tax and insurance payments as they fall due. These accounts are usually termed “escrow,” “impound,” or reserve” accounts. The usual obligations paid out of escrow accounts are ad valorem property taxes, special assessments, and casualty insurance premium. Sometimes other items are included, such as condominium or PUD homeowner association assessments and ground rents if the security property is ground leased land. Use of escrow accounts ensures that the mortgagor will “save enough money to pay the escrowed items, and provides the lender with and “early warning system;” as soon as the mortgagor misses even one monthly payment, the lender is immediately aware of the default and can take measures to protect itself.
Escrow accounts are also an important source of revenue for lenders. If the mortgagee is not required to pay interest on the account to the mortgagor, it can invest the funds on hand and earn interest on them for its own benefit until they need to be paid out read more here.