A mortgage is a loan to finance the purchase of a home, usually given by a bank or a mortgage lender. A mortgage has several parts, the collateral you used to get the loan (most often your home), the principal, interest, taxes and then insurance.
A mortgage is basically an agreement between a borrower and a lender to be given money in exchange for a property. Most mortgages are typically 30 years, with slight variations in length. After your mortgage is secured you will begin making regular monthly payments until the amount is paid in full or refinanced by lender or bank.
Principal is the total amount of money that was borrowed to buy the home. For example, if you received a loan for $250,000 your starting principal would be $250,000. To lower your initial principal amount, homebuyers can put down a larger percentage of the property’s purchase price as a down payment. In most cases, lenders require you to make a downpayment of at least 20% of the home’s total sale price to receive a mortgage.
Interest, or interest rate, is usually expressed as a percentage and is what the lender charges you to use the money you borrowed. You can calculate your interest payment relatively simply. All you have to do is multiply your loan amount by your interest rate, and then divide by 12.
Loan Amount: $250,000
Interest Rate: 3.5% or .035
Divided by months in year: 12
250,000 X .035 = $8,750
$8,750/12 = $729.16
This number would be the interest portion of your monthly mortgage payment.
Your principal and interest make up the bulk of your monthly mortgage payments in a process referred to as amortization. Amortization is simply the act of paying off a debt with a fixed repayment schedule in regular installments over a certain length of time.
The payments you make on property taxes fluctuate, but every homeowner must pay them. Your property taxes are based on a percentage of the value of your home.
30 Year Fixed vs. 15 Year Fixed Rate
The most common loan is the 30-year fixed rate mortgage. The 30-year fixed rate offers more financial flexibility and allows homebuyers to have lower monthly payments without having to pay for large amounts of interest over the life of the loan. The 30 year fixed rate mortgage allots homebuyers flexibility when making monthly payments and allows for more money to be saved each month because they have more time to pay off the loan.
A 15-year fixed rate mortgage allows for a family to own their home, loan free, in 15 years. While these types of mortgages require higher monthly payments than with a 30-year mortgage, the interest rate on the 15-year is slightly lower in most cases. Those with a 15-year fixed rate also pay less than half of the total interest of a 30-year mortgage. A 15 year fixed rate mortgage works great for families with the income to meet the monthly payments to pay off the house. Because this loan is paid off faster than the 30-year, lenders tend to offer this type of mortgage at a lower interest rate, saving families thousands in the long run.
Mortgage and Home Equity
Your home equity is the the difference between your property’s fair market value and the outstanding balance of all liens on the property. Paying your mortgage is the number one way to increase your equity. Every mortgage payment made by the homeowner contains a segment of the principal of the loan and interest that accumulates each month.
Each payment of the principal portion goes toward building your home equity and as each month passes homeowners increase the equity in their property. Homeowners who are able to make double payments on their mortgage are able to increase the process which results in equity being built faster.