Recently neighbors, who knew that I was in the tax business, shared a story about their mortgage closing. As they were signing the stack of documents at the title company, they noticed an error. Their closing was in October but the property tax being escrowed at closing indicated that the first bill to be paid was in June. Since that was more than 6 months away at the time, only a 2-month cushion was collected. What had been missed was the December bill. It was not accounted for and could not be paid at closing, because the bill had not yet been issued.
These types of errors are unfortunately fairly common. Lenders trust the title companies to do their role correctly, but mistakes do happen and when they occur there are protections in place to remedy the error.
In our friends’ case, they called their servicer after the closing and asked them to check on the taxes. Sure enough, their scheduled disbursement would have led to that December bill going unpaid. Our neighbors were savvy enough to ask the servicer not only to correct the date but to spread the escrow shortage over the next year, in effect getting an interest-free loan because of the error. Most borrowers would never have noticed the mistake. Most servicers would not have corrected the mistake until the tax agency sent a delinquency notice.
Picking the right due date
Making the determination as to when that first tax bill is to be paid can be a tricky step in the tax set up process. Set the date too far ahead and a tax bill goes delinquent while the borrower gets an unexpected and unnecessary escrow overage check containing funds needed to pay that bill. Set the date too soon and the payment can duplicate what was held and paid by the title company at closing. Not only is a refund request in order, if not automatically granted by the tax authority, but the borrower may also end up with a dreaded escrow shortage and payment increase that was not warranted.
Tax line set up is a small, but critical step in the life of the servicing of an escrowed loan. Traditional processes rely on an assumption to get that date correct. For example, “Taxes due within 60 days of closing are to be paid at closing.” Based on that assumption, the lender or tax service provider will establish that first scheduled tax escrow disbursement for the next due date that occurs 60 days after the closing. Of course, the benefit of this process is speed and low labor costs. Using a number-of-days assumption allows for complete automation of the tax line set up process. Fast tax lines are delivered to the loan servicing system. While speed is important, as a tax line is necessary for payments and escrow analysis, it should not be a substitute for accuracy. Labor costs saved on set up can be chewed up by error correction, customer calls and complaints and erroneous checks sent (and cashed!) by borrowers.
The opposite extreme would be to review every loan’s closing package to determine what was collected and when the first disbursement should be made. This, of course, reduces errors but it carries very high labor costs and dramatically slows tax line set up. For most servicers, this option is just too costly and could result in a delayed escrow analysis due to missing data.
There is middle ground, however, that provides a balance of set up, speed and accuracy. What our company recommends is eliminating “assumed paid” as an across the board rule. Instead, what we suggest is substituting a targeted review for loans with the closings that occurred near tax due dates. In addition to the timing of the closings, our approach takes into consideration, what tax jurisdictions the property is located in and how close in proximity the closing is to the next due date.
Is this worth doing? Recently a new client asked us to use a 45-day assumed paid rule. After a short period of time, we realized that this was causing many errors. If a bill had been issued at the time of close, no matter how far in the future it was due, funds were being withheld and taxes paid at closing. With the customer’s approval, we moved to our targeted review approach. In the first month, this approach prevented 150 delinquencies and more than 2,000 duplicate payments out of their more than 11,000 loans that had closed in that period. Needless to say, we’ve scrapped the use of that 45-day rule going forward.
Tax services use automation to keep costs down and minimize human error. But not everything in the process can or should be fully automated. Tax line setup is one of them.