You think you understand how much your mortgage payment is going to be and then your first bill comes. There seems to be more included in your payment than you expected. What are all the fees in your monthly mortgage bill?
Your mortgage principal is the base amount of money you needed to borrow to buy a home. For example, if you are buying a $200,000 home and you put down $20,000, your principal is $160,000. Almost all home loans are amortized, meaning they are structured so that the amount of principal you repay each month starts out small and increases over time. During the first few years of the loan, you might be amazed to see how little of your monthly payment goes to the actual principal. In fact, your interest portion might be as much as three times your principal amount in the beginning. By the end of the loan, your mortgage portion of the payment will be made up almost entirely principal.
Interest is the amount of money you give the lender for the privilege of borrowing money to buy a house. It is calculated based on the interest rate offered you by your lender. The reason that your interest portion makes us such a large part of your early payments is because the interest is calculated based on the size of the principal. At the beginning of the loan, you owe a lot of principal and the interest is higher. At the end of the loan when your principal is almost paid off, the interest required on that tiny sum is also tiny.
Beyond your lender fees, government property taxes are usually included in your monthly mortgage payment. Your escrow company will divide your yearly bill by 12, collect your taxes and insurance payments each month, and pay the premiums for you when they come due. In some cases, it is possible to pay these as a lump sum once a year. Property taxes are used to pay for schools, fire departments and police departments. Some areas can have higher property taxes than others based on things like home prices or special government bonds.
Insurance premiums are also a typical part of a monthly mortgage payment. Homeowners insurance is required in almost all cases. It provides reimbursement in case of natural disaster, fire or theft.
For borrowers who put down less than a 20% down payment, private mortgage insurance (PMI) is also required. This protects the lender against borrower default and the accompanying loss of profit. PMI can be cancelled when the buyer reaches 20% equity in the home. Both PMI and homeowners insurance premiums can be paid as once yearly lump sums, but are most commonly divided into the monthly payments. Even after you pay off your entire mortgage balance you will still be required to pay property taxes and insurance premiums.
Every mortgage payment contains more than just a principal payment. Understanding all the components of your monthly home loan bill can help you better comprehend the true costs of homeownership.