What’s Included in Your Monthly Mortgage Payment?
If you’ve been renting, you pay your landlord a certain amount every month. That amount covers your cost to live in your rental unit, but it may also include water, pet rent, reserved parking, electricity, waste services, and maybe even something for access to the onsite fitness center, all depending on your lease.
Fast forward a bit to when you may decide to get a house. At closing, your loan paperwork will contain a payment amount based on interest rate, loan amount, and the term of repayment. Your closing paperwork will also include a payment letter that gives you all of the who, what, and where of your first mortgage payment.
The amount on your payment letter includes principal and interest, but it may also include several other items such as homeowner’s insurance, mortgage insurance and property taxes.
This is often referred to as PITI (Principal, Interest, Taxes, and Insurance) and is an important aspect of the breakdown of your monthly mortgage payment.
Principal
Principal is the amount of your payment that goes towards paying down your loan amount. In the beginning of your loan repayment schedule, the principal part of your payment is kind of small, but it’s reducing your loan amount little by little each month.
Interest
Your lender gets paid for giving you the loan, and how they get paid is through interest. Your interest rate determines how much interest you will pay to the lender. That interest is spread out over the number of months you’re paying back your loan. Each mortgage payment has a portion that gets paid towards interest. Before I jump into taxes and insurance, I’d like to share some insight on your amortization schedule as it pertains to your principal and interest (P&I) payment.
Amortization schedule
Although the total principal and interest payment is the same each month, the principal and interest distributions change over time as your loan amount gets paid down.
Your amortization schedule is the breakdown of how principal and interest is applied to your loan each month for the duration of your loan term (number of months of repayment.)
For example, let’s say you have a $100,000, 30-year (360 month) mortgage loan, with a fixed interest rate of 6%. Your total principal and interest payment is $599.55 every month.
For your first payment, $99.55 goes towards principal and $500.00 goes toward interest. Your original loan amount of $100,000 is now reduced to $99,900.45 after principal is applied.
For your second payment, you’ll still be paying $599.55 for principal and interest; however, now, your distribution is based on the loan amount of $99,900.45 and no longer on the $100,000. This means more of the monthly payment goes towards principal and less towards interest, as seen in the chart below.
This continues month after month until you reach a $0 balance on your loan. This helps explain how your P&I payments are applied to your loan. You’ll see this information on your monthly statement as well.
Taxes
Real estate taxes are used to pay for schools, fire department services, police services, etc. within your community. You may owe these taxes annually, quarterly, or semi-annually. Instead of taking on the responsibility of saving money to pay these taxes as they come due, you can establish an escrow account with your lender who sets aside a portion of your total payment each month into that escrow account. When the bill is due, your lender pays it on your behalf out of your escrow account. Each mortgage payment will contain 1/12th of the total annual bill amount and is adjusted annually to make sure you are paying the right amount towards your tax bills. But keep in mind, your lender has no control over the amount of taxes you owe.
Insurance
The last piece of your monthly payment is insurance. Like with your taxes, you can have your lender set aside a portion of your total monthly payment into your escrow account for homeowner’s insurance payments and then pay them on your behalf as they’re due. It’s important to note that you select your insurance company and policy, so your lender has no control over the premiums. Your lender will receive copies of your insurance bills and will pay them for you, but does not negotiate lower rates or premiums for you.
If you’re required to have mortgage insurance, the monthly premium is also included in your total payment amount.
Now, let’s address some additional questions you may have about your monthly payment.
What's not included in your monthly mortgage payment?
Utilities, homeowner’s association fees, and condo association fees are not included in the mortgage payment that you pay to the lender.
You’re responsible for setting up your utility accounts and paying those separately. If your home is part of a homeowners’ association (HOA) or condo association, you will receive paperwork from the association with payment information. If you’re not in a flood zone that requires flood insurance, but you opt to have a policy, this will not be escrowed. If you’re required to have flood insurance and your lender is escrowing the regular taxes and insurance, flood will be escrowed too.
Can you pay "extra?"
Yes you can pay extra, but there may be fees associated with early pay off.
Check your loan documents for a clause called pre-payment penalty. It will tell you up to how much of your loan balance you can pay off each year without incurring a fee.
You may be able to send additional towards principal and even towards your escrow account. If you’re like me, you like paying nice whole amounts each month and those extra few dollars and cents here and there can add up.
As we mentioned in a previous article about private mortgage insurance, paying extra towards principal may even help get the private mortgage insurance removed from your loan sooner.
If your mortgage payment changes due to increases in taxes and insurance, you’ll receive a letter before the changes occur so that you can adjust your budget accordingly.
A monthly mortgage payment typically includes four components, often referred to as PITI: principal, interest, taxes, and insurance. Principalis the portion of your payment that reduces your loan balance. Interest is the cost of borrowing, determined by your interest rate. Taxes refers to your property taxes, which may be collected monthly and held in an escrow account until the bill is due. Insurance includes homeowners insurance and, if required, mortgage insurance. Your payment may also include flood insurance if your property is in a designated flood zone.
PITI mortgage insurance stands for Principal, Interest, Taxes, and Insurance. These are the four standard components that make up a monthly mortgage payment. Principal reduces your loan balance. Interest compensates the lender for extending the loan. Taxes are property taxes collected and paid on your behalf through an escrow account. Insurance covers your homeowners insurance premium and, when required, mortgage insurance. PITI is used by lenders to calculate your total monthly housing cost when evaluating your loan application.
An amortization schedule shows how each monthly mortgage payment is divided between principal and interest over the life of your loan. In the early years of your mortgage, a larger portion of each payment goes toward interest and a smaller portion goes toward principal. Over time, as your loan balance decreases, more of each payment shifts toward principal. Your total principal and interest payment amount stays the same each month, but the distribution between the two changes with every payment.
An escrow account is an account your lender maintains on your behalf to collect and pay your property taxes and homeowners insurance. Each month, a portion of your mortgage payment is deposited into the escrow account. When your tax bill or insurance premium is due, your lender pays it from the escrow funds. The monthly escrow amount is reviewed annually and adjusted if your tax or insurance costs change. Your lender has no control over the amount of taxes you owe or the insurance premiums you are charged.
Your monthly mortgage payment to your lender does not include utilities, homeowners association fees, or condo association fees. You are responsible for setting up and paying utility accounts separately. If your home is part of an HOA or condo association, you will receive payment information directly from the association. Flood insurance is also not typically escrowed unless your lender is already collecting taxes and insurance in escrow and flood coverage is required for your property.
In most cases, yes. You may be able to make additional payments toward your principal balance, which can help pay down your loan faster and potentially remove private mortgage insurance sooner. However, some loan documents include a prepayment penalty clause that limits how much of your loan balance you can pay off in a given year without incurring a fee. Review your loan documents for any prepayment penalty terms before making extra payments, and contact your Mortgage Banker if you have questions about how additional payments are applied.
If your mortgage payment changes, it is most likely due to an adjustment in your escrow account. Property taxes and homeowners insurance premiums can increase from year to year. Your lender reviews your escrow account annually and adjusts your monthly payment if the amounts collected need to change to cover the updated bills. You should receive a notice before any payment change takes effect so you can plan accordingly. Your principal and interest payment remains fixed for the life of a fixed-rate loan.
Property tax rates vary by county and municipality across Virginia, North Carolina, Florida, and Georgia. Because tax bills differ depending on where your home is located, the portion of your monthly mortgage payment collected for taxes will vary based on your specific property and jurisdiction. Your lender collects one-twelfth of your estimated annual tax bill each month and holds it in escrow until the bill is due. Atlantic Bay serves homebuyers and homeowners across all four of these states and can help you understand how local tax rates factor into your total monthly payment.