Buying a home can be one of the most rewarding investments you’ll ever make. If you’re thinking of making the move, it’s important to estimate your monthly mortgage payment before making a commitment. This knowledge will help you better gauge if a property will fit within your current budget.
PITI: The Four Key Parts of Mortgage Payments
Your mortgage payment consists of four key parts: principal, interest, taxes and insurance (often abbreviated as “PITI”). These elements are used to calculate the total mortgage payment once the amount and the terms of the loan have been decided.
Principal is the money you borrow to purchase the home. A portion of the principal is usually paid off with each mortgage payment and reduces the outstanding balance you own, thereby increasing your home equity.
Interest is the amount a lender charges you for borrowing the money to buy the home. Many factors determine mortgage rates, but usually the interest rates can vary according to risk. Items that affect your interest rate include credit score, down payment, loan program, loan type, property type and loan-to-value.
Taxes are annual property taxes paid by homeowners to local governments to fund public services (community schools, roads, police, etc.), and are usually a percentage of the assessed property value. Before buying a house, be sure you understand what you can expect to pay for local property and county taxes.
Insurance refers to your homeowner’s insurance and helps protect against financial loss from fire, natural disasters or other hazards. This type of insurance is required for all homebuyers who finance their homes with a mortgage.
Remember, many loan quotes will only include your principal and interest. You’ll also need to factor in the taxes and insurance to calculate your total monthly mortgage payment.
If you’re taking out a loan on your first home, it can be a little overwhelming to think about adding a monthly mortgage payment, as well as managing new expenses such as property taxes and home insurance premiums. One way to keep yourself organized and ensure you save the funds needed to pay these expenses is to set up an escrow account with your lender. With a mortgage escrow account, you pay your lender 1/12 of your annual real estate tax bill and hazard insurance premium each month, along with your regularly scheduled payment. The lender collects your monthly payments and distributes them to your county assessor and insurance company as the payments are due.
Most lenders require an escrow account for first-time homebuyers who have made less than a 20 percent down payment. If you pay less than 20 percent, you will also most likely need private mortgage insurance, or PMI, on your mortgage loan to guarantee against borrower default. If this is the case, this amount will also be included in your escrow payment.
Once you become a homeowner, you will find that your monthly mortgage payment becomes a little more complicated than writing the monthly rent check. As you build equity in your home, however, writing that check can be far more rewarding. Understanding where your money is going and budgeting for your monthly mortgage expenses can be a key strategy for successful homeownership.