When considering the total costs involved in taking out a loan to buy a house, the acronym PITI can be helpful. This stands for principal, interest, taxes and insurance. Many mortgage lenders calculate your PITI when deciding whether you qualify for a mortgage of a particular amount. All of the PITI components affect the size of your monthly mortgage payment, so let’s delve into the specifics of each. Before we discuss your interest rate, it’s important to have a general understanding of your principal loan balance. The principal balance on a mortgage is the amount you borrow from a lender. If you’re taking out a $250,000 home loan, for example, that’s the principal balance. If you make a 20%, or $50,000, down payment on a $250K house, your principal balance would be $200,000 because that’s the size of the loan you would need after making your down payment. Your principal payment is a portion of your monthly mortgage payment, which also includes interest, as well as homeowners insurance and property taxes in most cases. Principal Balance
Interest Rate
Now, let’s consider how the loan’s interest rate affects your monthly payment. Interest on a mortgage is the amount you pay to borrow money from a lender. Interest rates are determined by a combination of market trends and personal factors, including your credit score, debt-to-income ratio (DTI), income and down payment amount. Just like principal, interest makes up a portion of your monthly mortgage payment.
The higher your mortgage rate, the higher your monthly payment will be. For example, the monthly payment on a 30-year fixed $250K mortgage with an interest rate of 6% is about $1,499 (excluding insurance and property taxes). For the same mortgage with an 8% interest rate, the monthly payment is about $1,834 (excluding insurance and property taxes).
Fixed-Rate Vs. Adjustable-Rate Mortgage Loans
Whether your mortgage has a fixed or adjustable interest rate can also influence your monthly mortgage payments on a $250K loan. With a fixed-rate mortgage, you have the same interest rate throughout the life of the loan. This means you’ll typically make the same mortgage payment every month, although fluctuations in homeowners insurance and property taxes can alter the payment amount.
With an adjustable-rate mortgage (ARM), the interest rate is fixed for a period of time (typically 7 or 10 years). Once this initial period expires, your interest rate can increase, decrease or stay the same.
Term Length
Your loan term determines how long you’ll be making principal and interest payments on the home loan unless you pay the loan back ahead of schedule. The most common loan terms are 15- and 30-year mortgages, although other term lengths may be available to you.
The longer your term, the more time you have to pay back the loan and the smaller your monthly payments will be. The bad news is you’ll end up paying more in interest over the life of the loan.
With a shorter loan term, you’ll pay less in interest over time but put more money toward your loan’s principal balance every month, resulting in your monthly mortgage payment being higher than if you opted for a longer loan term.
$250K Mortgage Term Length Example
Let’s consider how the term length on a $250K loan affects the amount of your monthly payment and the total interest paid on the mortgage. If you secure a 7% fixed interest rate and a 30-year loan term, you’ll pay about $348,772 in interest when all is said and done. Your monthly mortgage payment would amount to $1,663 (without insurance and property taxes).
If you take out the same loan amount with the same interest rate but opt for a 15-year loan term, you’ll end up paying $154,473 in total interest – significantly less than half of what you’d pay with a 30-year loan. However, your mortgage payment would be around $2,247 a month, excluding property taxes and insurance.
Additional Home Buying Costs
In addition to the mortgage rate and term length, other costs can shape the amount of your monthly payment on a $250K loan. Some of these costs include the ones discussed next.
Closing Costs
You can expect your closing costs to be 3% to 6% of your loan amount. For a $250,000 mortgage, this means you’ll pay $7,500 to $15,000 in closing costs. If you’d rather not pay these costs at the closing table, a lender may be willing to roll them into your monthly mortgage payments – increasing the size of each payment.
Homeowners Insurance
You can either pay the homeowners insurance premium in a lump sum directly to your insurance provider each year, or the cost can be divided by 12 (for the 12 months in a year) and added to your monthly mortgage payments. If you choose the second and more common option, your lender will set this money aside in an escrow account and pay the insurance company at the end of every year on your behalf.
Property Taxes
You’ll pay property taxes based on local property tax rates and your home’s value. Your lender will typically divide your annual tax bill by 12, add the divided amount to your monthly mortgage payments and pay your local government on your behalf through an escrow account – just like with homeowners insurance.
Private Mortgage Insurance (PMI)
If you took out a conventional $250K mortgage after making less than a 20% down payment on the purchase price, you’ll have to pay private mortgage insurance (PMI). Annual PMI typically costs 0.2% – 2% of your remaining loan balance. So, on a $250,000 mortgage, you’ll likely pay $500 – $5,000 in PMI the first year and pay less in subsequent years as your remaining loan balance drops. This cost can usually be rolled into your monthly mortgage payments.
