An escrow agreement is a contract between the parties to a transaction and an escrow agent that sets out what the agent will hold, for how long, and on what conditions it must release the property to one party or another. It is used wherever one side wants assurance that money or documents will be delivered only when the other side has done what it promised, from property purchases and company sales to software licences and online marketplaces.
The escrow agreement is separate from the main commercial contract, such as a share purchase agreement or a sale contract, although it refers to it. The main contract decides when money is owed; the escrow agreement tells the agent how to act. The property held is described under escrow funds, and the accounting treatment under escrow in accounting.
Escrow agreement in plain terms
Think of the written instructions you might leave with a neighbour who is holding a parcel for you and a friend: "Give the parcel to Sam only when Sam shows you the receipt. If we both tell you to send it back, send it back. If we argue, keep it until we sort it out." The neighbour does not need to understand why you are trading the parcel, only what to do with it.
An escrow agreement is those instructions written as a binding contract. It protects the parties, because the rules are fixed in advance, and it protects the agent, because it only has to follow them.
Key terms of an escrow agreement
- Parties and deposit. Who the depositors and beneficiaries are, and exactly what is deposited, whether cash, securities, documents or source code.
- Release conditions. The events or documents that trigger release, and to whom.
- Holding and investment. Where the funds are held, whether they earn interest, how that interest is allocated and who is treated as owning it for tax.
- Disputes. What the agent does if parties disagree, usually holding the property until joint instructions or a court decision.
- Agent protections. Fees, an indemnity from the parties, limits on liability and the agent's right to resign.
- Termination. When the agreement ends, including a final date after which any balance is returned.
Common types of escrow agreement
| Type | What is held | Typical release trigger |
|---|---|---|
| Real estate closing escrow | Purchase money, deeds and loan documents | Completion of the sale and registration |
| M&A indemnity escrow | Part of the purchase price | Expiry of a claims period, less any agreed claims |
| Software or source code escrow | Copies of the source code | Supplier insolvency or failure to support the product |
| Litigation or settlement escrow | Settlement funds | Court approval or signed releases |
| Marketplace or online escrow | The buyer's payment | Buyer confirms delivery, or a time limit passes |
In mortgage lending the word "escrow" is also used for the account a lender keeps to pay a borrower's property taxes and insurance, which is governed by different rules and reviewed through an escrow analysis.
How release works
Most agreements use one or more of three methods. With joint written instructions, both parties sign a notice telling the agent to pay out. With document-based release, the agent pays when it receives specific documents, such as a completion certificate, bill of lading or court order. With deemed release, funds go to one party if the other does not object within a set period, which is common in marketplace and M&A escrows. Agents prefer objective triggers, because judging whether goods are satisfactory or a warranty has been breached is outside their role.
Releases are often partial. Suppose a buyer of a company places 1,000,000 dollars in an indemnity escrow for 18 months. During that time it makes a warranty claim of 150,000 dollars, which the seller accepts. The parties send joint instructions, the agent pays 150,000 dollars to the buyer, and at the end of the period the remaining 850,000 dollars, plus any interest due under the agreement, goes to the seller. If the seller had disputed the claim, the agent would keep the 150,000 dollars back until the dispute was settled and release only the undisputed balance.
Drafting and legal considerations
Lawyers pay attention to how the escrow interacts with insolvency: a well-drafted agreement makes clear that the funds are not the property of the agent and, where possible, are protected if a depositor goes bankrupt before release. Know-your-customer checks on all parties are now standard, and agents may refuse unusual structures to avoid money laundering risk. Cross-border escrows raise questions of which law governs, which courts have jurisdiction and how currency conversion is handled. Where the agent is a payment or money transmission business rather than a bank or lawyer, the agreement should reflect licensing and safeguarding obligations. Finally, the agreement must match the commercial contract exactly, because inconsistencies between the two are a common source of disputes, often ending in formal dispute resolution.