The estimated prepaid items and reserves are the funds used to set up your escrow account, pay for the interest that would accrue on your loan over and above the interest your first payment s covers and it includes the Upfront Mortgage Insurance if it is an FHA loan.

On the GFE prepaid items generally are:

12 months of insurance paid at closing (homeowners - fire and possible flood/windstorm where required)

Funding fee for government loans FHA/VA only

interest per deim - days of interest @ xx dollars to end of month

Reserves are always required if the loan to value is 80% or above

3 to 4 months of insurance

NET 3 to 4 months of taxes (approx. - the seller is usually required to pay thier portion YTD as a credit to you at closing) - there shall be an aggregate adjustment completed prior to closing to ensure the investor is not maintianing too much monies in escrow on your behalf.

Example: Insurance is being paid out for 12 months from close date - you close on March 15th, 2009 and your 1st payment is on May 1st (skip April) - the lender has to be sure that before the next March 15th that there is enough monies within escrow to pay your annual insurance premium for 2010.  The same situation goes for taxes.

Just to clarify a little further, the escrow setup for taxes and insurance will depend on when your state taxes and home owners insurance is due. For example our state pays half in February and half in May for property taxes. So refinance loans this month are collecting the 1/2 half of taxes and 5 additional months (for a total of 11). That will vary state to state. Your insurance renews annually and will also vary.

The escrow/prepaids are considered items your would have to pay regardless of your refinance loan or where you get your purchase loan (with the exception of funding fee's on refinance loans) and typically isn't included in the "closing cost" number given by most lenders, banks and brokers. It is of course part of your total settlement costs for a mortgage transaction.