Do you know how much your monthly mortgage payment is? If you are like most homeowners, you probably mail out a check blindly every month without even knowing where your money is going. In fact, a large percentage of homeowners don’t know their exact interest rate or what they currently owe on their loan balance. They spend weeks before the closing trying to get the best possible loan terms, only to quickly forget everything once they get in the house. Whether you are an investor or a homeowner, you should have a good idea of what your mortgage payment is. These figures impact the rest of your monthly budget or cash flow. If you never knew, or need a refresher course on payments, here is a mortgage breakdown.
Mortgage Breakdown: What Are The 4 Parts of A Mortgage Payment?
A mortgage payment has four parts: principal, interest, taxes, and insurance. A principal is the repayment of your loan amount, which typically adds on interest, or the profit that goes to the lender, while taxes represent the portion that goes to the government, and the insurance is what protects lenders in the case that a loan goes into default.
If you have ever made mortgage payments before, have you ever stopped to think exactly what the mortgage breakdown looks like? Or were you under the assumption that you were chipping away at a lump sum? As it turns out, the anatomy of a mortgage payment is a lot more complex than that. For example, if you put down less than 20 percent towards your down payment, then your mortgage loan breakdown most likely includes private mortgage insurance (PMI) as well, to be discussed later on. Keep reading to learn more about the role each of these components plays in the mortgage payment breakdown:
Principal: The principal is the repayment of your loan amount. This is the portion of the payment that is used to reduce the balance you owe. The larger the balance, the higher the mortgage payment. If you take a fixed interest rate option, your principal repayment will be the same for the life of your loan. There is a lot of information on your repayment from your amortization schedule.
This is a breakdown of every payment for whatever term you select. Typically, a greater amount of principal is paid during the back half of your loan. The first seven years of a thirty-year loan will go mostly towards the interest. Your lender wants to earn their interest back first before they start reducing the principal. This is a method banks use to protect themselves in the event of a default. The next time you get a minute, go on your lender’s website and print off a copy of your amortization schedule. You may be surprised at where your monthly payment goes.
Interest: Interest is basically the profit that goes to the lender. As mentioned, lenders will always get their interest in the first few years of the loan repayment. Most buyers are obsessed with what interest rate they are qualified for on their loans. The larger the loan amount, the greater the change in rate impacts the monthly payment. The difference between 4 percent and 4.25 percent on a $100,000 loan will only equal a change of less than $20 a month. On a $400,000 loan, the same change will go all the way to almost $60 a month. The most important part of interest is that it is compounded. The total interest is significant, regardless of your interest rate. The principal and interest portions are typically lumped together on your monthly statement. Assuming you took a fixed rate, this number will never change during the life of your loan.
Taxes: Taxes are the most important part of your mortgage payment. This is often the area that is most overlooked, but it is the most important. Almost all lenders require you to include, or escrow, the taxes into your monthly payment. The reason they do this is that property taxes take lien priority over everything else. If your taxes weren’t escrowed and you defaulted on your tax payment, the town could begin the foreclosure process. The tax portion of your payment could change from year to year, depending on the town. If you escrow, you place the next tax payment or two with your lender, and they pay the taxes for you. The odds are you will never see a tax bill again. If you have extra in your escrow account at the end of the year, your lender may cut you a check. In most cases, they roll it over to next year. If your mortgage payment has increased and you don’t know why, look at the tax portion.
Insurance: Like your property taxes, the insurance is typically escrowed into your monthly payment. Lenders do this to ensure that you are always covered in the event of an emergency. From time to time, your insurance company may check out the roof’s condition, or rates may increase. The taxes and insurance typically do not experience much fluctuation. Still, if there is a run on foreclosures or weather issues impacted the town, it could change significantly in months.
If you are like most homebuyers, you bought your house putting less than 20 percent down. Under this scenario, you make a payment that is included in your monthly mortgage towards monthly private mortgage insurance (PMI). This money is considered a protection against mortgage default by your lender. For conventional loans, you continue making this payment until you have 20 percent equity in your property. There have been recent changes to FHA programs that keep this PMI payment for the life of the loan. With interest rates at historically low levels, it is important to know the duration of PMI payment before you commit to a loan. With rates sure to rise, the change may be too high to make it worth eliminating the PMI portion of your mortgage.
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Calculating Your Mortgage Payment
Calculating your monthly mortgage payment will require information about your loan and some math. The formula will look something like this:
P [ i (1 + i)n ] / [ (1 + i)n – 1] = Monthly Mortgage Payment
To calculate your payment, first, take your annual interest rate and divide it by twelve. This will give you the monthly interest rate, which you can plug into the “i” variable. Then, take the length of the mortgage (in years) and multiply it by 12. This will give you the total number of payments needed on the mortgage to use as “n.” The variable “P” is the principal owed on the loan.
Let’s say you borrow $250,000 with a 30-year mortgage at 3.5 percent. Following the steps above, your monthly interest rate would be about .0029 percent; and the total number of payments would be 360. The completed formula would be as follows:
$250,000 [ .0029 (1+.0029)360 ] / [ (1+.0029)360 – 1] = $727.01
Based on the formula, your monthly mortgage payment would be around $727.
Mortgage Breakdown: Homeowner Q&A
Mortgages are notoriously complicated, regardless of whether you are a new or seasoned homeowner. Not all of us can be brilliant with financial concepts, but it is important to understand exactly how mortgage loans operate as consumers. Here, you will find explanations for some of the most common mortgage breakdown questions:
Your First Mortgage Payment
Homeowners will not make their first mortgage payment until one full month after closing on the property. Mortgage payments are typically made at the beginning of the month for the previous month (unlike rent, which pays for the upcoming month). For example, if you close on a property on April 22, your first mortgage payment will not be due until June 1 and will cover living in the property for May. Then on July 1, you will make your second payment for June and so on. Information on your first payment amount and due date should be provided to you at the time of closing.
Loan Amortization Calculator
A mortgage loan is amortized over time, meaning that the mortgage debt is gradually reduced over the loan term, taking interest into account. This means that each of your monthly mortgage payments is made up of a payment towards your interest and a payment towards your principal balance. Some homeowners are surprised to find out that payments are predominantly made towards interest towards the beginning of your term. CreditKarma offers an online loan amortization calculator that shows the breakdown of mortgage payments over the life of the loan.
An amortization schedule can provide a payment breakdown for your mortgage, meaning it will show what portion of your payments go to each of the four loan components mentioned above. This schedule is important for tracking how much of the loan principal you have paid off and how much interest you have paid. For example, if you have a $200,000 30-year mortgage, your amortization schedule will have 360 payments. Your payments will be designated differently as you pay off different parts of your loan during this time. The first payment you make will likely go to interest, while payments near the end of the loan period will go almost entirely to finishing your principal payments.
HOA & Other Fees
First-time homebuyers are often shocked at the number of fees that can accompany mortgages, such as private mortgage insurance (discussed above) or other types of charges. Possible examples might include homeowner association fees, condo association fees, or special categories of insurance policies based on location. It may be impossible to avoid all additional fees, but you can account for them when looking for properties to make sure there are no surprises when making your first mortgage payment.
As you look for a property, be mindful of areas that have homeowners associations. These fees can range anywhere from $50 to $300 a month, depending on the area and amenities provided. Many homeowners find these fees to be completely worth it, as they often come with certain benefits to the neighborhood. However, no one should be surprised with extra costs, especially when purchasing a home. When closing on a property, be sure to investigate all types of charges and do not assume that your mortgage will be the sole responsibility.
Paying Off Your Mortgage
Homeowners often wonder if they can pay off their mortgage earlier than the original loan term by making added payments each month. This is entirely understandable since the idea of owning a property free and clear presents itself as a strong incentive. The answer is “yes,” but be sure to double-check your mortgage documents, as well as a check-in with your lender, to find out about possible early payoff penalties. Lenders have an incentive to keep a mortgage open as long as possible, to profit off of interest payments. Because of this, they often charge penalties if you pay over a certain percentage of your loan balance each year.
Robin Antill, the Director at Leisure Buildings, suggests that one of the biggest benefits of paying off your mortgage is that “you can rest easy at night knowing that you are not obligated to any lender. Even if you don’t
have any financial concerns, it’s awesome to be able to home say you’re mortgage-free You don’t have to compare the cost of a mortgage to the cost of other investments any longer. Investing is a delicate balancing act that demands meticulous planning to avoid going against your own interests. Your mortgage is most likely the largest debt you’ve ever taken off, and the interest you pay piles up over years of decades”.
How Much Interest Will I Pay On A 30-Year Mortgage?
According to Freddie Mac, the national average interest rate for a 30-year mortgage is about 4.21%. Generally, you will get higher interest rates on a 30-year loan compared to a shorter-term one. A 15-year loan had interest rates of about 3.42%. This is also about a 1% increase for 30-year and 15-year mortgages compared to last year’s interest rates. Always be sure to compare rates before making any decisions. It is possible to find incredible deals with just a little research.
How Do I Pay A 30 Year Mortgage In 15 Years?
The best way to pay a 30-year mortgage in 15 years is to pay larger amounts at once or increase the frequency of your payments. If you find yourself with extra monthly cash flow, whether from a raise at work or renting out a spare bedroom, it may be possible to increase your regular payment. Just be sure to consult your lender and confirm that your extra funds are going directly to the principal.
Another way to pay off your mortgage quicker is to increase the number of times you pay. For example, many homeowners make one mortgage payment a month. However, if you get paid biweekly, you could set up a loan payment to automatically come out on payday. Over a year, this would equate to 13 full payments instead of 12. These strategies will not only help you increase equity in your home, but they will also get you closer to making your final mortgage payment.
How Much Of A Mortgage Goes To Principal?
The amount of mortgage going to principal varies depending on how long you have been paying the loan. While your monthly payment may be the same each month, different portions are designated for different parts of the loan in reality. In most cases, lenders will see that most early payments go towards paying off the loan’s interest. This is to ensure they get paid upfront. As the loan term carries on and the interest is paid down, more of the monthly payment will go directly to the principal. The reason for this is because of loan amortization, which essentially breaks down your payment schedule. Several amortization calculators online can reveal exactly how much of your payment is going towards the principal. I recommend using this calculator provided by Bankrate.
Should I Pay Off My Mortgage Early?
There are several pros and cons associated with paying off a mortgage early. Most notably, making your final mortgage payment comes with a sense of pride. It marks the end of being in debt for many homeowners, which can provide peace of mind. Depending on your loan, paying off your mortgage early can also offer sizable savings from interest payments. Homeowners can then use that extra cash each month to put towards other costs or perhaps an investment.
On the other side, paying off a mortgage early could strain some homeowners financially. Before deciding to increase your mortgage payments, make sure you have an emergency savings fund. Spending all of your extra cash on extra mortgage payments could put you in a tight spot if anything unexpected were to happen. It is also a good idea to confirm you have paid off other high-interest debts before tackling a mortgage. If credit cards or a car loan cost you more per month in interest, it could be wise to handle those first.
What Is The Homestead Exemption?
The homestead exemption is a tax policy available in forty-six states that allows homeowners to deduct a certain amount of their home value from their annual property taxes. These deductions are a way for states to indirectly lower property taxes, which are regulated locally. The amount can either be a percentage of the property value or a set amount determined by the state. A percentage allows homeowners to save the same proportion in taxes but generally benefits those with higher value homes. A flat rate is thought to be more helpful for homeowners with lower property values. To qualify, the property must be a primary residence for homeowners and not a rental property.
What Is Mortgage Recasting?
Mortgage recasting is an alternative to refinancing that lowers your monthly payment by decreasing your principle balance. Homeowners can work with their lender to discuss this option, which involves maintaining the original terms of the loan. To reduce the monthly payment, owners are given the opportunity to make a lump sum contribution to the principle. In turn, this will decrease the monthly payment. Homeowners may choose this option if they already have favorable loan terms, or if they do not want to pay the costs to refinance — but still want to decrease their regular monthly payment.
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What Happens If I Miss A Payment?
If you miss a mortgage payment, you could incur late fees and other financial penalties. If you miss multiple payments, you could ultimately default on your home loan and face foreclosure. These consequences can leave lasting impacts on your financial health and jeopardize your living situation.
The best way to avoid missing a payment is first to familiarize yourself with the details of your mortgage. Note that most lenders have a grace period that allows you to submit payments up to two weeks after the initial due date. Further, if you think you will miss a payment, you can reach out to your lender for guidance. They will work with you to find a solution and minimize the financial impact of a late payment.
Whether you are buying a house for the first time or simply using traditional financing to invest, it is crucial to understand every aspect of your mortgage breakdown. Start by reviewing the components of a mortgage loan and then see what questions you still have. Familiarizing yourself with these concepts will help you look for areas to save money. The more you know about your mortgage payment, the better decisions you will be able to make.
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