A mortgage is a long-term bank loan that allows people to buy houses and property. In order to turn profit, banks add interest on top of the principal loan payments. The real cost of a mortgage depends on your downpayment, the principal loan, the interest rate, your insurance policy, your tax rate, and the term of the loan.
A downpayment is the percentage of a home’s total price that you pay upfront. A 20% downpayment is the commonplace target. This means you pay 20% of a home’s cost on the day of purchase, and you take out a loan, or mortgage, for the other 80%.
Since the size of the downpayment directly affects the total of your bank loan, the amount you put down will influence how long you are paying a loan off, and/or the size of your payments. It will also affect the total interest you pay. Some banks even require buyers to purchase a specific mortgage insurance policy with a downpayment of less than 20%. For these reasons, it is recommended for most buyers to pay down 20% if they comfortably can.
The principal loan, often referred to simply as “the principle”, is the total amount borrowed from the bank. It is determined by a buyer’s downpayment, and usually equals the cost of the home minus that downpayment. In other words, if you pay down 20% on a $200,000 home, your principal loan will be $160,000.
That said, your total monthly payment includes more than just a portion of the principal. It also includes interest, and typically both insurance and property tax payments.
If the principle loan is what you borrowed from the bank, interest is what you pay the bank to loan you the money in the first place. Usually, interest is paid monthly, and is calculated as a percentage of the total loan. A higher percentage means you pay more to the bank for the loan. A lower percentage is, conversely, a better deal for the buyer.
This percentage, or the mortgage rate, fluctuates on a personal level and a national scale. Many factors, such as the national real estate economy and your borrowing history will alter the rate offered by banks. Each month, you’ll pay some interest along with your payment toward the principal. Typically, the quicker you pay off your loan, and the more you put down initially, the less you’ll wind up paying in interest.
Your monthly payment will likely include some amount toward homeowners insurance and property taxes. This part of the payment may enter an “escrow” account. Banks use these accounts to put your money aside, and to pay the relevant payments in lump sums when bills are due. Depending on your downpayment, insurance may be optional, but it is recommended in the event of an emergency regardless. Property taxes, however, are non-negotiable, and the rate you pay will depend on where you live, and how much your home is worth. This second factor means that your tax payment is subject to change should your home gain or lose value.