Home Buyer’s Guide: Understanding your Mortgage payment

The Five Key Parts

Making your mortgage payment is a lot like paying your rent. It provides you with a place to live and is probably the biggest check you write every month. However, your mortgage payment is very different. It feels like one lump sum, but is made up of five key elements:

  • Principal
  • Interest
  • Property taxes
  • Homeowners insurance
  • Private mortgage insurance (PMI)

Principal

This is the amount you borrowed for your mortgage loan. If you borrowed $100,000, then your outstanding principal is $100,000. A portion of each monthly mortgage payment goes toward paying off your outstanding principal. During the early years of your loan, the portion that goes toward your principal is small. But this portion grows with each payment and helps you build equity.

Interest

This is the amount your lender is charging you for the money you borrowed. During the early years of your loan, the portion that goes toward paying interest is large — but it is also tax deductible, meaning you will get a percentage of this money back. Plus, the portion of your mortgage payment that goes toward interest shrinks every month.

Keep in mind, just because the portion that goes toward interest shrinks every month, doesn’t mean your total mortgage payment goes down. As the portion that goes toward interest shrinks, the portion that goes toward principal grows by the same amount.

Property Taxes

A portion of your monthly mortgage payment will be placed in an escrow account, which your lender will use to pay your property taxes on your behalf. Property taxes are also tax deductible, so you can look forward to getting a percentage of this money back.

Homeowners Insurance

A portion of your monthly mortgage payment will be placed in an escrow account, which your lender will use to pay your homeowners insurance premium on your behalf. Homeowners insurance protects against things such as storm damage, fire, theft and accidents that may occur on your property.

Private Mortgage Insurance (PMI)

If your down payment is 20% or more of the purchase price, the need for PMI is eliminated altogether.

Until you have 20% equity in your home, though, a small portion of your mortgage payment will go toward paying for PMI, which protects your lender in case you default on your loan.

Keep in mind there are a couple of ways for you to build equity. With each mortgage payment, the portion that goes toward principal builds your equity. Any increase in property value will also increase the equity you have in your home.

Once you’ve achieved 20% equity in your home, ask your lender to eliminate PMI from your mortgage payment and you’ll save hundreds of dollars a year.

Wrap up

What about HOA fees? While its true some properties require you to pay an HOA fee either yearly or monthly, you don’t have to choose a property with an HOA. Better-Spending does not recommend choosing a first-time property that has these type of fees. Honestly, this subject requires a separate article as an explanation why we don’t recommend them. We’d have to change our name from better-spending to so-so spending. Plus, there are much better uses for your hard earned dollars.

Stick around for our next segment where we cover the last and Puzzle piece:

What to expect at closing?

Published by jemvolition

Freelance Writer/Author

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