PITI: Understanding Your Mortgage Payments
11/01/2018 Alena Savchenko
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Buying a home can be one of the most rewarding investments you will ever make. However, it can also be one of the most costly. Estimating your monthly mortgage payment well in advance of purchasing can help you make smart decisions with your budget.
Many prospective buyers find it valuable to calculate a home’s monthly mortgage payment —before making any serious commitment—to gauge if it is a good fit for their budget. Read on to learn more about mortgage payments, including what PITIA is, and what your payments cover.
What is a Mortgage Payment?
A mortgage loan is a specific type of long-term loan used to finance the purchase of a home. A mortgage payment is the monthly amount you are required to pay toward your mortgage. The mortgage payment will vary widely depending on the amount of money borrowed (i.e. the “size” of the loan), the length of time within which the loan must be paid back (i.e. the “term” of the loan) and your interest rate.
The size and term of the loan will have the biggest impact on monthly payment. A higher loan amount or a shorter loan term will require higher monthly payments than a smaller loan amount or a longer loan term. However, your interest rate will also impact your monthly payment. The higher the interest rate, the higher your payments are.
What is PITIA?
The acronym PITIA stands for the five most important components of a monthly mortgage payment beyond the size and term of the loan, specifically:
- Association dues
Changing any of these five factors will affect your estimated monthly payment; let’s examine how each does so in its own way. (For the purposes of explaining each factor, we will use a $200,000 mortgage as an example.)
The Principal is the amount you actually borrowed from the lender. In the example of our $250,000 mortgage, the principal is $250,000.
When you first start making mortgage payments, most of your payment will go toward paying the interest (discussed below). However, the amount of principal you pay off will increase with every passing month, putting you one step closer to owning the home free and clear. In the final years of a loan, you will primarily be paying down the principal.
The Interest is what the lender charges for loaning you the money. The higher the interest rate on a mortgage, the higher the monthly payments will be. Since interest rates are a major component of affording a home, homebuyers are typically able to borrow more when there is a low interest rate.
When you first start paying off your mortgage, you will be paying mostly interest. As time goes on, less of your payment will go to interest and more will go toward paying down the principal. If you pay more principal in the beginning by making larger or extra payments, you will reduce the overall amount of interest paid over the life of the loan.
Let’s take our $200,000 mortgage as an example. In this case, it is a 30-year fixed-rate mortgage with an interest rate of 6%. (We’ll get to taxes and insurance later, so for the time being, assume there are no additional fees.)
The estimated monthly payment for the loan would be a total of $1,342. Here’s how that amount breaks down between principal and interest over the first few years of a mortgage:
This trend—increasing principal and decreasing interest—will continue over the life of your loan until you are paying mostly principal with just a little interest. For example, by month 300 (25 years into the mortgage), you would be paying $885 principal and only $315 interest. By your final payment, you would pay $1,193 in principal and only $6 in interest.
The Tax on your property is assessed by government agencies and is used to fund specific municipal services such as water treatment and road maintenance, or public schools. It is common for lenders to set up an impound escrow account for real estate taxes, where the lender collects a monthly payment designated for your taxes and holds the total until your annual taxes are due. Your annual real estate taxes are divided by 12 and added to the monthly principal and interest amount you are paying.
Real estate taxes can vary greatly in different areas (and in some areas, they can be quite costly). As soon as you identify a property you are interested in, it’s crucial to determine the exact local tax rate prior to closing.
Let’s take a look at the role of real estate taxes in different areas. Using our example of a 30-year fixed mortgage on a $200,000 home (assuming property appraised at the same value) with 6% interest, here is the breakdown of monthly payments for three different tax rates.
|Property Tax Rate||Annual Property Tax||Annual Mortgage Payment Total||Monthly Mortgage Payment Breakdown|
|2%||$4,000||$18,384||$199 principal + $1,000 interest + $333 property tax = $1,532|
|4%||$8,000||$22,392||$199 principal + $1,000 interest + $667 property tax = $1,866|
|8%||$16,000||$30,384||$199 principal + $1,000 interest + $1,333 property tax = $2,532|
There are two different kinds of Insurance coverage to keep in mind during the homebuying process: homeowners insurance and private mortgage insurance.
The first type, homeowners insurance (sometimes referred to as property insurance), protects the buyer in the event the home is damaged by a natural disaster or any other unforeseen event. Homeowners insurance is typically handled like real estate taxes; the cost is added to the monthly mortgage payment and held in escrow until it is due. The amount of insurance varies depending on your location, the type of home you are purchasing and the types of coverage you want. It is best to get a quote from an insurance agent when shopping for homes.
Private mortgage insurance, or PMI, is used when a borrower pays a down payment of less than 20% of the home’s cost. This type of insurance protects the lender in case you are unable to repay the loan amount and default on the mortgage. PMI can vary based on several factors, including loan amount, loan-to-value ratio, property type, and credit score.
Using our example of a $200,000 mortgage (30-year fixed-rate term and 6% interest), let’s say the home itself is worth $250,000. The borrower is only able to put down $37,500 as a down payment, which is 15% of the cost of the home. If the PMI rate is 1%, the annual PMI fee would be $2,000 (.01 x the total loan amount). Split over 12 payments, the borrower would owe an extra $167 each month.
5. Association Dues
Association dues are often overlooked in the budgeting process. If you buy a home with a homeowner’s association, you will have to pay a monthly amount to maintain the amenities in your association. Fees can range from a few dollars a month to several hundred, so make sure you keep that in mind when looking for a home.
Preparing for Your Mortgage Payment
Understanding everything that goes into your monthly mortgage payment is a crucial early step in the homebuying process. By calculating the principal, interest, taxes, insurance, and association dues, you are better able to determine how much your dream home will truly cost. Use our mortgage calculators to estimate your monthly mortgage payment based on loan amount, annual interest rate, length of the mortgage, and other important factors.