What Is Included In A Mortgage Payment?

Q:

What is included in a mortgage payment?

A:

A mortgage payment is made up of four main components: the principal, interest, taxes, and insurance. This is commonly known as your PITI. Let’s break down each of these components to provide a clear picture of what is included in a mortgage payment.

Principal

The principal is the existing balance of your mortgage. It is the amount you must pay down to zero before you are free and clear of your mortgage. When you make a mortgage payment, a certain portion of the payment goes toward reducing this principal.

When you first start making your mortgage payment, a small portion of your payment goes toward paying the principal while the majority of the payment covers the interest. As time passes, more of your payment goes toward the principal than the interest.

The table below reflects an example of how this works. The majority of the payment is interest in payments 1 through 5. During the final loan payments (payments 359 & 360), the majority of the mortgage payment goes toward paying the principal.

# PaymentsPrincipalInterestPrincipal-to-DateInterest-to-DatePrincipal Balance
167.09666.6767.09666.6799,932.91
267.54666.22134.631,332.8999,865.37
367.99665.77202.621,998.6699,797.38
468.44665.32271.062,663.9899,728.94
568.90664.86339.963,328.8499,660.04
....
359724.039.7399,264.28164,155.56735.72
360735.724.90100,000164,160.460.00
Source: Public Domain, https://commons.wikimedia.org/w/index.php?curid=461535

The reason more of your payment initially goes toward the interest is because the interest payment is based on your principal balance. When you pay down the principal, the less interest is due as a payment.

Interest

Interest is what you are charged for borrowing. How much interest that you pay depends on the interest rate you are charged and the amount that you borrow. The higher the interest rate and the more you borrow, the higher your interest payment will be. As discussed above, the amount you pay as interest will be reduced as you pay down your principal balance.

Taxes

The government seems to find a way to tax just about everything. Properties are no exception. Your local government will base your property taxes on the market value of your home. Your taxes are included in your mortgage payment unless your lender permits you to pay them on your own. Your property taxes will vary depending on where you live.

Homeowners Insurance

Most lenders require you to obtain homeowners insurance to acquire a mortgage. Lenders typically require the insurance to be enough to cover at least the mortgage loan amount. Your insurance is included in your mortgage payment unless you choose to pay it on your own and your lend allows it. If you are in a designated flood area, your lender may also require you to obtain flood insurance.

Mortgage Insurance

Your lender may require you to obtain mortgage insurance if your loan-to-value (LTV) is above 80%. So if you have an 80% LTV, this means you put down 20% or already have 20% built up in equity in the case of a refinance. The remaining 80% you are borrowing from the bank as a mortgage.

LTVs higher than 80% are seen as riskier transactions to lenders. Lenders require mortgage insurance for loans above an 80% LTV because the insurance helps protect them from loss in case of default. If you have mortgage insurance, you will often pay monthly premiums that are included in your mortgage payment.

You can calculate your LTV by taking your loan amount and dividing it by the lesser of the appraisal value or purchase price. Note that the purchase price is not applicable for refinance transactions.

HOA & PUD Fees

Your lender will include your  homeowner’s association (HOA) or Planned Unit Development (PUD) fee as one of your debts when you qualify for a loan, if applicable. However, this fee is paid separately from your mortgage payment.