Why Are Mortgage Payments Mostly Interest?

Mortgage Q&A: “Why are mortgage payments mostly interest?”

Here’s an interesting mortgage question – pun sadly intended because I couldn’t help it.

Lots of folks are obsessed with how much interest is paid on a mortgage, often citing the total interest paid over 30 years.

This counters the argument that mortgages are the cheapest debt you can own, which they basically are.

Let’s discuss what they’re getting at to see what all the fuss is about.

Payment Composition Over Time

  • Most homeowners tend to take out fixed-rate mortgages
  • The monthly payments on these types of loans don’t change during the full 15- or 30-year terms
  • But while the mortgage payment remains constant throughout the life of the loan
  • The amount that is allocated to principal and interest changes monthly as the loan is paid off

The way mortgages are set up here in the United States, each monthly payment is the same amount, assuming it’s a fully amortizing fixed-rate mortgage, which most tend to be.

The payment amount after month one is the same as it is during month 360, assuming you take out a 30-year fixed and keep it until maturity.

This makes housing payments more affordable (and predictable) because the balance is paid off evenly over a long period of time, such as 30 years.

However, even though the payment amount is fixed, the composition of the payment will change monthly until the loan term ends.

Let’s take a look at an example to illustrate:

Loan type: 30-year fixed mortgage
Loan amount: $200,000
Mortgage interest rate: 4%

In this common scenario, the monthly mortgage payment would be $954.83 for 360 months in a row. Ouch. That’s a long time.

Each month, the borrower would need to make the same payment to their lender or loan servicer in order to satisfy the entire balance in 30 years.

The amount would never change, though as mentioned, the composition would. In fact, it would change every single month during the loan term.

How Much Goes Where Each Month?

amor 1

  • During the early years of a home loan most of the payment goes toward interest
  • This is the result of a large outstanding balance at the outset of the loan
  • Over time more money shifts toward principal as the loan balance shrinks
  • Unfortunately, most borrowers don’t keep their loans long enough to see this happen

As you can see from this image of the amortization schedule, the first monthly mortgage payment consists of $288.16 in principal and $666.67 in interest.

In short, the first payment on a mortgage is “mostly interest.” In fact, interest accounts for nearly 70% of the first payment. Boohoo.

In the second month, the total payment amount is still $954.83, but the composition of the payment changes slightly.

The principal portion increases to $289.12, while the interest portion drops to $665.71.

Why is this? Well, remember the first month’s principal payment of $288.16? That lowered the outstanding principal balance from $200,000 to $199,711.84.

As a result, the interest due on the second monthly payment dropped, and the principal increased, because as noted earlier, the payment amount stays constant.

Over time, this trend continues. The principal portion of the monthly mortgage payment increases while the interest portion drops.

It’s pretty minimal in the beginning because little principal is paid each month with such a large balance demanding so much interest each month.

This is the “front loaded” argument you hear about – how interest makes up the lion’s share of early payments. It’s not a gimmick, just the way math works.

Principal Surpasses Interest!

amor 2

  • It takes nearly half the loan term for principal payments to exceed interest payments
  • But once this finally happens payments become very principal-heavy
  • This means more of your dollars are actually going toward paying off your home loan
  • And in a few short years the loan balance is paid down pretty fast

In month 153, or nearly 13 years into a 30-year mortgage, the principal portion of the mortgage payment finally surpasses the interest portion.

As seen in the screenshot above, the principal portion of the monthly payment is $477.88, while the interest portion is $476.95, which still equals the original payment amount of $954.83.

Interestingly, the outstanding loan balance remains a hefty $142,608.40, or 71% of the original balance.

It’s not until month 231, or nearly 20 years into the loan term, that the outstanding balance falls below $100,000, or less than half of the original loan amount.

In other words, the bank still very much owns your home, even though you think you’re the king or queen of your castle.

However, this is where the principal really starts to get paid down, as interest finally takes a back seat.

Barely Any Interest Is Paid During the Final Year of the Loan

amor 3

During the final year of the loan term, each monthly payment is more than 96% principal, with very little interest due because the outstanding balance is so low.

A small outstanding balance coupled with a low mortgage rate means associated interest will be pretty insignificant, as seen in the image above.

We’re talking $37 bucks one month, $19 in another, and just over $3 in the final month!

Assuming the loan is paid off in full, as scheduled, a borrower would pay a total of $343,739.21, of which $143,739.21 would be interest.

So it’s not mostly interest, rather, it’s mostly principal.

The Real World Scenario

  • Most homeowners sell their homes or refinance in less than 10 years
  • For these borrowers their cumulative payments will be mostly interest
  • But technically you should pay more principal than interest on a home loan
  • You just need to hold it for a very long period of time to see that happen

In reality, many homeowners don’t hold their mortgages for the full term. In fact, most are said to hold their loans for a fraction of the loan term, such as seven or eight years.

That’s right – plenty of borrowers refinance, pay off the mortgage earlier, or simply sell their home and move on to another mortgage.

So it’s kind of misleading to look at mortgages as if they’re going to last the full term. But it’s for this very reason that mortgage payments tend to be mostly interest.

Because many borrowers never get to the point where the principal actually surpasses the interest.

When borrowers do refinance, critics will argue that they’re “resetting the clock,” which refers to extending the loan term and starting the process all over again.

For example, if you paid down your existing 30-year loan for 10 years, then refinanced into another 30-year loan, you’d extend the length of your mortgage.

Same loan amount, but longer time period to pay it off, even if your mortgage rate is lower.

As a result, your balance would be paid off over 40 years, as opposed to 30. That’s 10 years from the first loan and 30 years for the refinance loan, meaning it could result in more interest paid.

Again, most borrowers don’t hold their loans that long, so again this fear is overstated and sometimes not even relevant.

However, if you are deep into a 30-year mortgage and looking to take advantage of a lower mortgage rate, consider a shorter term as well, such as a 20-year or 15-year mortgage.

That way you’ll avoid paying extra interest and stay on track to be free and clear on your home as originally intended, assuming that’s your intention.

Read more: Should I Prepay the Mortgage or Invest Instead?

Source: thetruthaboutmortgage.com

If You Want to Be a Homeowner, Go to College and Get a Degree

Posted on June 21st, 2021

Assuming you want to become a homeowner, it’s probably best to go to college, even if you have to take out costly student loans in the process.

You may have read articles over the past several years that talk about snowballing student loan debt and the inability to afford a mortgage as a result.

While this might be true in some cases, it turns out you’re still more likely to buy a home if you obtain at least a bachelor’s degree.

The Benefits Outweigh the Costs

student loan homeowners

A commentary (since removed) from mortgage financier Fannie Mae revealed that those who go to college are more likely to become homeowners than those who simply graduate from high school.

The most probable homeowners are those with a college education and no student loans, with a likelihood of homeownership that is 43% higher than high school graduates without student loans.

Meanwhile, student loan holders with bachelor’s degrees are still 27% more likely to become homeowners relative to those debt-free high school graduates.

There is a catch though – if you don’t actually complete your bachelor’s degree and simply wind up with student loans, you’re actually worse off than those who simply called it quits after high school.

This last group is 32% less likely to own a home than a debt-free high school graduate. They’re also more likely to be behind on student loan payments, which isn’t very surprising.

The takeaway here is that it pays to go to college, even if it costs and arm and a leg.

The idea being that college grads get paid more and are eventually able to qualify for mortgages to purchase homes.

Don’t Be Discouraged If You Have Student Loans and Need a Mortgage

As noted, student loan debt has increased substantially in recent years and its effects may not yet be evident in the homeownership numbers.

Additionally, the majority of those surveyed by Fannie Mae had student loan debt that accounted for 10% or less of their monthly income. Others might not be so lucky.

If you have outstanding student loans, you can still get approved for a mortgage. It just might affect how much you can afford because it will be factored into your DTI ratio.

Many student loans are deferred to help recent graduates get up and running before they are gainfully employed. However, mortgage lenders know these individuals will eventually have to repay their loans.

As a result, lenders must still account for the student loan repayment when qualifying you for a mortgage to ensure your home loan is actually affordable.

Of course, it depends on the type of mortgage you apply for.

Fannie Mae Student Loan Guidelines

When it comes to Fannie Mae (conforming loans), if the student loan payment amount is listed on the credit report, it can be used for qualifying purposes. End of story.

If the payment isn’t listed on the credit report, or shows $0, or is deferred, different rules apply.

For those in an income-driven payment plan, and documentation shows the actual monthly payment is zero, the lender may qualify the borrower with a $0 payment.

For student loans that are deferred or in forbearance, a payment equal to 1% of the outstanding balance can be used to determine the monthly payment.

So if there’s a $25,000 student loan, $250 is added to your monthly liabilities to calculate your DTI, even if it’s lower than the actual fully-amortizing payment.

Lenders are also able to calculate a payment that will fully amortize the loan based on the documented loan repayment terms, which may result in a lower monthly liability.

While this may seem harsh, it used to be 2%, or $500 in our example above.

But Fannie determined that actual monthly payments were generally less than 2% of the total balance.

The old policy also required lenders to use the greater of the actual monthly payment or 1% of the balance, unless the payment was fully-amortized and not subject to any future adjustments. But this made no sense either.

Freddie Mac Student Loan Rules

If the student loan(s) is in repayment, deferment, or forbearance, Freddie Mac breaks it down into two options.

For loans with a monthly payment greater than zero, the actual payment amount found on the credit report or other file documentation can be used.

If the monthly payment amount reported on the credit report is $0, the lender must use 0.5% of the outstanding loan balance as the payment for qualifying purposes.

So using our same example from above, a $125 payment would be factored into your DTI to determine if you qualify.

This could make it easier to qualify for a Freddie Mac-backed mortgage versus a Fannie Mae loan.

Additionally, it might be possible to exclude the student loan payment from your DTI ratio if there are 10 or less monthly payments remaining.

FHA Student Loan Guidelines

HUD just announced new changes on June 18th, 2021 that may make it easier to qualify for an FHA loan if you have student loan debt.

Regardless of payment status, when the payment is above $0 the lender must use the payment amount reported on the credit report or the actual documented payment.

If the payment amount listed is zero, 0.5% of the outstanding loan balance is used to calculate the payment, similar to Freddie Mac.

So again, it’d be a payment of $125 using our example of $25,000 in debt.

Prior to this change, the FHA used 1% of the balance, so the $25,000 loan would have resulted in a $250 per month liability for your DTI ratio.

Obviously this can have a huge effect on what you can afford.  And apparently more than 80% of FHA-insured mortgages are for first-time home buyers.

Additionally, the FHA estimates that nearly half (45%) of these borrowers have student loan debt, with people of color the most impacted.

This explains the easing of the rule, and pales in comparison to the old requirement of 2% of the outstanding balance if no payment was found!

VA Student Loan Rules

When it comes to VA loans, student loan payments can be ignored if payments won’t begin for more than 12 months from loan closing.

This can be a huge advantage if your liabilities would push you over the allowable max DTI ratio.

But if student loan repayment has started or is scheduled to begin within 12 months from the date of the VA loan closing, the lender must count the actual or anticipated monthly payment.

They use a formula that calculates each loan at a rate of five percent of the outstanding balance divided by 12 (months).

So using our $25,000 example, it’d be $104.17. However, if a higher payment amount is listed on the credit report, such as $150, it must be used.

If the payment listed on the credit report is lower than the threshold payment calculation above, a statement from the student loan servicer that reflects the actual payment may be permitted.

USDA Student Loan Guidelines

For USDA loans, the actual student loan payment can be used if it’s fixed (and has a fixed term) without future payment adjustments.

If no payment is reported or it is deferred, 0.5% of the loan balance is used unless there is evidence that it’s a fixed payment.

Using our $25,000 example, it’d be $125, similar to the other loan types listed above.

If you’re close to maxing out with regard to DTI, an experienced mortgage broker or lender might be able to get you approved using a mortgage that has a more forgiving policy with regard to student loan debt.

Don’t give up until you consider several scenarios and exhaust all your options.

But also make sure you factor in any student loan debt early on in the mortgage discovery process so you don’t overlook this key qualification aspect.

A good rule of thumb might be to calculate your DTI using 1% of your student loan balance for the monthly payment, even if it turns out you can use a lower documented payment. This way you’ll still qualify in the worst-case scenario.

Also watch out for lender overlays that call for higher minimum monthly payments than the guidelines actually require.

Source: thetruthaboutmortgage.com

3 Reasons Why Putting Less Down Can Raise Your Mortgage Payment

Posted on June 17th, 2021

If you’re in the market to purchase a new home, perhaps because mortgage rates are low and you’re an extremely brave individual, you may be thinking low down payment all the way.

Heck, for many borrowers these days, a low down payment is the only way to play, with home prices surging to new all-time highs in record fashion.

In case you hadn’t heard, zero down mortgages are mostly extinct, other than VA loans and USDA loans.

But there are still other low-down payment options, such as the ever-popular FHA loan, which only requires 3.5% down, along with conventional mortgage options that call for just 3% down.

While these low-down payment mortgages can make homeownership more accessible, your mortgage payment will rise, which obviously erodes your affordability.

There are actually three ways a low down payment can increase your mortgage payment, which could even put your loan in jeopardy.

Let’s explore these issues to determine if putting down more money might be the better move.

Less Money Down = Larger Loan Amount

  • The most obvious downside to a lower down payment is a larger loan amount
  • The less you put down, the more you’ll need to borrow from the bank
  • This means paying more each month in the way of principal and interest
  • Pay extra attention to loan amount if it’s close to the conforming limit

First and foremost, if you put less money down on your home purchase, you’ll wind up with a larger mortgage. There’s really no way around it.

For example, if a home is listed for $500,000 and you put down 20%, your loan amount would be $400,000.

If you’re only able to come in with 3%, your loan amount is a significantly higher $485,000.

Simply put, a larger mortgage balance means a higher monthly mortgage payment. So the less you put down upfront, the more you pay each month.

That bigger loan amount also means you’ll pay a lot more interest over the life of the loan.

So this hurts two-fold. Both month-to-month in terms of potential payment stress, and over time via a lot more interest paid.

The upside might be less money trapped in your home, which could be put to use elsewhere for a higher return.

[What mortgage amount can I qualify for?]

More Risk Means a Higher Interest Rate to Compensate

  • Another issue with putting less down is a potentially higher interest rate
  • Lenders charge pricing adjustments that increase as the LTV ratio goes up
  • This could raise your mortgage rate a little or a lot depending on all the factors in play
  • Those with low credit scores could be impacted even more when coming in with a low down payment

Before you go with a low down payment mortgage, consider the mortgage rate impact of doing so.

If you decide to put down just 3-5%, your loan-to-value ratio (LTV) will be pretty high, and that means more risk to the issuing bank or lender.

To compensate for this increased default risk, you will likely be offered a higher interest rate on your mortgage.

Those rock-bottom rates you see advertised often require a 20%+ down payment, similar to how they assume you have an excellent credit score.

So if you don’t put down 20%, and instead opt for 5% or less, you’ll probably be stuck with an inferior mortgage rate.

How much worse will depend on the full loan scenario, including your FICO score, property type, occupancy, and so on.

For example, if the 30-year fixed is averaging 3% for top-tier loan scenarios, you might be offered an interest rate of 3.75%.

That higher interest rate will result in an increased mortgage payment, and more money paid out to the bank via interest.

This additional cost can add up significantly over the life of the loan as well.

And remember, it’s a one-two punch when you consider the larger loan amount coupled with the higher mortgage rate.

To add insult to injury, it could also affect outright eligibility in some cases if you’re debt-to-income ratio (DTI) is near the cutoff.

In other words, you may need to put down more to even get approved for a mortgage to begin with.

Mortgage Insurance Might Be Required

  • One final problem with low-down payment mortgages is the mortgage insurance requirement
  • This applies to most home loans where the down payment is less than 20%
  • This can greatly increase your overall housing payment as well depending on all risk factors
  • And is yet another added cost that can be avoided if you simply put down more money at closing

Finally, if you put down less than 20%, and don’t go with a piggyback second mortgage, you’ll likely be subject to paying mortgage insurance.

This applies to loans backed by Fannie Mae and Freddie Mac, which are the most common.

For FHA loans, this MIP requirement is unavoidable, even if you happen to come in with 20%+.

And note that this insurance protects lenders (not you) from the higher risk of default associated with a low-down payment mortgage.

It will be added on top of your monthly mortgage payment, so you’ll owe even more each month until you pay your loan balance down to 80% LTV (and ask that the insurance be removed).

The good news is it can be avoided by simply coming in with a 20% down payment and not taking out an FHA loan.

Let’s look at an example to put it all in perspective:

Home purchase price: $400,000

20% down: $80,000
$320,000 loan amount @3.75% (30-year fixed)
Monthly mortgage payment: $1481.97
Total interest paid: $213,509.20

5% down: $20,000
$380,000 loan amount @4.375% (30-year fixed)
Monthly mortgage payment: $1897.28
Total interest paid: $303,020.80

Assuming you went with a 30-year fixed mortgage, the 5% down option would result in a monthly mortgage payment more than $400 higher than the 20% down option (before mortgage insurance is even factored in).

Note the higher mortgage rate on the low-down payment loan.

And you’d pay nearly $90,000 more in interest over the life of the loan.

In other words, down payment matters. A lot.

Bonus: The amount you put down can also keep your loan out of the jumbo mortgage realm, which will often make it even cheaper mortgage rate-wise.

So consider that as well if you happen to be close to the conforming loan limit.

And as always, be sure to do plenty of homework and mortgage rate shopping.

If you take the time to gather multiple quotes and consider all scenarios, you may be able to get the best of both worlds, a low-down payment mortgage with a low interest rate.

Learn more by reading my primer on mortgage down payments.

Source: thetruthaboutmortgage.com

Why It Could Be a Great Summer for Mortgage Rates

It’s looking like it could be a really good summer for mortgage rates, after a very uncertain spring made it appear as if the best we had seen was gone forever.

Now this isn’t to say that mortgage rates will hit all-time record lows again, but the fact that they’re slipping back to those levels, even as inflation concerns grow, is a positive.

Mortgage Rates Ebb and Flow Throughout the Year

  • The 30-year fixed has fallen back below 3% and is currently averaging 2.96% per Freddie Mac
  • It was as high as 3.18% in early April when it appeared the best levels were a thing of the past
  • Now we seem to be enjoying a low-rate trend that could get even better as summer progresses
  • There are often periods of strength and weakness with mortgage rates (aka opportunities for borrowers)

If you watch mortgage rates for long enough, you’ll notice that they ebb and flow, just like stocks or other investments.

This is because the mortgage-backed securities (MBS) that drive these prices are actual investments for the traders who purchase and sell them.

There are periods of strength and weakness, which often last weeks or even months, where it seems they either have nowhere to go but up or down.

It can be emotional and psychological, similar to the stock market where traders rush to close their positions after a bad week , only to panic and buy back in as prices rise again.

When we compare that to mortgage rates, it could be the homeowner who locks their rate after a period of rising rates, only to find that the trend reverses.

Of course, it’s very difficult to time the market, so I don’t fault anyone trying to determine that right time to lock it in, or alternatively float for an even better rate.

The point is that often when all hope is lost, there’s a reversal, which seems to come out of nowhere.

That appears to be the case over the past couple weeks, with the 30-year fixed now averaging 2.96% per Freddie Mac, basically its lowest point since February.

If all goes well, we could see it fall back to those early 2021 levels, where it was as low as 2.65% in January.

Mortgage Lenders Are Going to Get Aggressive as Business Slows

  • The traditional home buying season is now coming to a close as summer begins
  • For mortgage lenders coming off record quarters this means severely reduced loan volume
  • Fewer home purchase loans and dwindling refinances could force them to lower their interest rates to drum up business
  • This means they’ll pass more savings onto consumers while reducing their own margins

While the technicals underpinning mortgage rates have been improving for a few weeks now (10-year bond yield back at its lowest point since March), another seasonal dynamic might be working in our favor.

As we approach summer, everyone slows down, gets fatigued, and goes on vacation. Most businesses don’t look forward to this time of year unless they’re in the tourism industry.

This is especially true of real estate and mortgage, as both tend to peak in spring during the traditional home buying season, before grinding to a halt in the warmer months.

Knowing this, mortgage lenders will be forced to get more competitive if they want to keep volume up, an especially difficult task given their record business in the first quarter of 2021.

Ultimately, it’s going to be very tricky for them to keep up the momentum, especially since most homeowners already refinanced, and home sales are being held back by a major lack of inventory.

So what is a lender to do? Well, lower their mortgage rates obviously!

They’ve got profit margins they can play with, and instead of making a ton of money per loan, they can sacrifice some to keep the business coming in.

This might even be more pronounced than usual because lenders have been busier than ever, which allowed them to keep rates artificially inflated.

We Are Entering the Historically Better Time of Year for Mortgage Rates

  • Mortgage rates tend to be highest in April when consumer demand for home loans is strongest
  • Lenders are often busiest during this time of year and charge a premium as a result
  • Once their business slows down they’re essentially forced to become more competitive
  • Rates usually drop as summer progresses and are cheapest in winter

After some research, I discovered that mortgage rates are highest in April, then tend to cruise lower throughout the second half of the year.

While they seem to be cheapest in winter, specifically the month of December, they get pretty low around late summer and early fall too.

This is yet another reason why the best time to buy a home is in August/September.

Anyway, if this trend holds in 2021, we could see the 30-year fixed fall back to those record low levels seen in January.

As noted, we might see even more improvement than in other years due to a major slowdown in business, which should force lenders to compete more aggressively than usual.

For example, United Wholesale Mortgage, the nation’s largest wholesale mortgage lender, recently announced a price match through the month of June.

This tells me they’re doing their best to pick up the expected slack and other lenders will likely follow suit, including the retail banks.

For borrowers, this is great news. If you missed your chance to refinance, or were on the fence about it, you might get a good opportunity this summer or later in the year.

And those who have yet to purchase a home might be able to offset the sky-high price tag with an ultra-low mortgage rate again.

Of course, low rates might be a bit of a double-edged sword for home buyers as they just stoke the flames of an already red-hot housing market.

Read more: 2021 Mortgage Rate Predictions

(photo: Michael Frascella)

Source: thetruthaboutmortgage.com

Do Mortgage Payments Go Down Over Time?

Mortgage Q&A: “Do mortgage payments decrease?”

While everyone always seems to focus on mortgage payments adjusting higher, there are a number of reasons why a mortgage payment may actually decrease over time.

No really, there are, so let’s take a look at how this pleasant surprise could happen, shall we…

Mortgage Payments Can Decrease on ARMs

  • While perhaps not as common as the payment going up
  • Monthly payments can drop if you have an adjustable-rate mortgage
  • But you’ll need the associated mortgage index to decline in the process
  • And your lender may have a built-in floor, so basically don’t bank on it

If you have an adjustable-rate mortgage, there’s a possibility the interest rate can adjust both up or down over time, though the chances of it going down are typically a lot lower.

Still, it is viable to take out an ARM, hold it throughout its initial fixed-rate period, then wind up with a lower rate once it becomes adjustable.

You may remember that now infamous interest rate reset chart, the one that showed billions of dollars worth of mortgages resetting from their fixed-rate period into their scary adjustable period.

Well, the damage wasn’t nearly as bad as it originally appeared because many of the mortgage indexes tied to those loans plummeted to rock-bottom levels and/or all-time lows.

As a result, some homeowners who stayed in those seemingly “exploding ARMs” may have actually seen their mortgage payments fall. And the savings could have been significant.

For example, say you took out a 5/1 ARM set at 3.5% for the first 60 months with a margin of 2.25% tied to the 12-month LIBOR.

After five years, the rate may have fallen to around 2.5% with the LIBOR index down to just 0.25%.

Yes, it is possible to lower your mortgage rate without refinancing!

When You Pay Down Your Mortgage (But It’s Not Automatic)

  • Payments can also go down if you make a large lump sum payment
  • But you’ll need to get your mortgage lender to recast your loan
  • Doing so will allow them to re-amortize it based on a lower outstanding balance coupled with your original loan term
  • Without a recast, extra payments won’t automatically lower future payments

If you decide to pay off a large chunk of your mortgage, you can ask the mortgage lender to recast your loan (if they allow it).

This essentially re-amortizes the mortgage so the new, smaller balance is broken down over the remaining months left on the loan.

Your monthly mortgage payment is adjusted lower to reflect the smaller outstanding principal balance, but your mortgage rate doesn’t change.

While this could increase household cash flow, you may be better suited to pay off your mortgage early by making your old, higher monthly payment despite the lower balance.

[Pay off the mortgage or invest instead?]

Keep in mind that mortgage payments won’t decrease automatically simply by making extra payments. All that will accomplish is a quicker payoff period and interest savings.

For example, if you pay an extra $500 per month on a $300,000 mortgage set at 4%, you’ll pay off the loan 11 years and 8 months early. But payments will be the same every month until the loan is paid in full.

In other words, future payments won’t go down to reflect earlier ones, but because the loan will be paid off sooner than scheduled, you will save more than $92,000 in interest over the life of the shortened loan.

Tip: A mortgage payment doesn’t decrease over time as it is paid off, like it might with a credit card or revolving account like a HELOC.

Instead, the monthly payment is pre-determined for the life of the loan using an amortization schedule, even if you chip away at it along the way.

If You Refinance Your Home Loan to a Lower Rate

  • This is the most common reason why mortgage payments drop
  • And largely why homeowners choose to refinance their mortgages
  • If interest rates are low and you’re looking for some payment relief
  • It might be time to trade in your old home loan for a new one via a refinance

Here’s a no-brainer. If you want a lower mortgage payment, look into a rate and term refinance.

Because mortgage rates are very low at the moment, your mortgage payment will probably decrease significantly if you refinance now, assuming you haven’t done so recently.

This is one of the most popular and easiest ways to lower your mortgage payment with minimal effort.

It just requires a little bit of work on your end in terms of shopping around, submitting a loan application, getting approved, and making it to the finish line.

For example, if your current interest rate is set at 4%, it might be possible to refinance it down to 3%, which depending on the loan amount could lower your payment significantly and save you a ton in interest too.

However, it’s not always a good time to refinance. Sometimes rates can be higher, and other times the closing costs might exceed the benefit, especially if you don’t plan to stay in the property for the long-haul.

[When to refinance a mortgage?]

If you’re not sure whether to refinance or not, consider the refinance rule of thumb argument.

Shop Your Homeowners Insurance, Look Into a Tax Reassessment

  • You can also look beyond your mortgage rate to gain payment relief
  • It might be possible to lower your payment by shopping around for homeowners insurance
  • Or getting a tax reassessment if you feel your property value has dropped
  • A simple escrow surplus can also result in a lower payment

Lastly, be sure to shop your homeowner’s insurance each year, as it is typically included in your mortgage payment.

If you can snag a lower home insurance premium, your mortgage payment may decrease as a result. Another pretty simple way to save money…

Assuming you didn’t waive escrows, your loan servicer will collect a portion of property taxes and homeowners insurance with each principal and interest payment, then pay these items on your behalf.

If either decrease from a year earlier, your total housing payment may go down as well after they run their annual escrow analysis.

Also look into a tax reassessment of your home if you feel it is overvalued.

If property values have been on the decline, you may be able to save some money on property taxes by asking your county recorder’s office to reassess your property.

Of course, it doesn’t always work out as planned so tread cautiously.

Remember, a mortgage payment is typically expressed as PITI, which stands for principal, interest, taxes, and insurance.

Take the time to address each component if you want to save money on your monthly housing costs.

See also: Do mortgage payments increase?

Source: thetruthaboutmortgage.com

Why Are Refinance Rates Higher?

Mortgage Q&A: “Why are refinance rates higher?” If you’ve been comparing mortgage rates lately in an effort to save some money on your home loan, you may have noticed that refinance rates are higher than purchase loan rates. This seems to be the case for a lot of big banks out there, including Chase, Citi, [&hellip

The post Why Are Refinance Rates Higher? first appeared on The Truth About Mortgage.

Source: thetruthaboutmortgage.com

Do Mortgage Payments Increase?

Mortgage Q&A: “Do mortgage payments increase?”

While this sounds like a no-brainer question, it’s actually a little more complicated than it appears.

You see, there a number of different reasons why a mortgage payment can increase, aside from the obvious interest rate change. But let’s start with the obvious and go from there.

And yes, even if you have a fixed-rate mortgage your monthly payment can increase.

While that might sound like bad news, it’s good to know what’s coming so you can prepare accordingly.

Mortgage Payments Can Increase with Interest Rate Adjustments

  • If you have an ARM your monthly payment can go up or down
  • This is possible each time it adjusts, whether every six months or annually
  • To avoid this payment surprise, simply choose a fixed-rate mortgage instead
  • FRMs are actually pricing very close to ARMs anyway so it could be in your best interest just to stick with a 15- or 30-year fixed

Here’s the easy one. If you happen to have an adjustable-rate mortgage, your mortgage rate has the ability to adjust both up or down, as determined by the interest rate caps.

It can move up or down once it initially becomes adjustable (after the initial teaser rate period ends), periodically (every year or two times a year) and throughout the life of the loan (by a certain maximum number, such as 5% up or down).

For example, if you take out a 5/1 ARM, it’s first adjustment will take place after 60 months.

At this time, it could rise fairly significantly depending on the caps in place, which might be 1-2% higher than the start rate.

So if your ARM started at 3%, it might jump to 5% at its first adjustment.

On a $300,000 loan amount, we’re talking about a monthly payment increase of nearly $350. Ouch!

Simply put, when the interest rate on your mortgage goes up, your monthly mortgage payments increase. Pretty standard stuff here.

To avoid this potential pitfall, simply go with a fixed-rate mortgage instead of an ARM and you won’t ever have to worry about it.

Or you can refinance your home loan before your first interest rate adjustment to another ARM. Or go with a fixed-rate mortgage instead.

Or simply sell your home before the adjustable period begins. Plenty of options really.

Mortgage Payments Increase When the Interest-Only Period Ends

  • Your payment can also surge higher if you have an interest-only loan
  • At that time it becomes fully-amortizing, meaning both principal and interest payments must be made
  • It’s doubly expensive because you’ve been deferring interest for years prior to that
  • This explains why these loans are a lot less popular today and considered non-QM loans

Another common reason for mortgage payments increasing is when the interest-only period ends, an issue that was common prior to the last housing crisis.

Typically, an interest-only home loan becomes fully amortized after 10 years.

In other words, after a decade you won’t be able to make just the interest-only payment.

You will have to make principal and interest payments to ensure the loan balance is actually paid down.

And guess what – the fully amortized payment will be significantly higher than the interest-only payment, especially if you deferred principal payments for a full 10 years.

Simply put, you’ll be paying the entire beginning loan balance in 20 years instead of 30, assuming the loan term was for 30 years, because interest-only payments mean the original loan amount remains untouched.

This can result in a big monthly payment increase, forcing many borrowers to refinance their mortgages.

Just hope interest rates are favorable when this time comes or you could be in for a rude awakening.

Mortgage Payments Increase When Taxes or Insurance Go Up

  • If your mortgage has an impound account your total housing payment could go up
  • An impound account results in homeowners insurance and property taxes being paid monthly
  • If those costs rise from year to year your total payment due could also increase
  • You’ll receive an escrow analysis annually letting you know if/when this may happen

Then there’s the issue of property taxes and homeowners insurance, assuming you have an impound account.

Even if you’ve got a fixed-rate mortgage, your mortgage payment can increase if the cost of property taxes and insurance rise, and they’re included in your monthly housing payment.

And guess what, these costs do tend to go up year after year, just like everything else.

A mortgage payment is often expressed using the acronym PITI, which stands for principal, interest, taxes, and insurance.

With a fixed-rate mortgage, the principal and interest amounts won’t change throughout the life of the loan. That’s the good news.

However, there are cases when both the homeowners insurance and property taxes can increase, though this only affects your mortgage payments if they are escrowed.

Keep an eye out for an annual escrow analysis which breaks down how much money you’ve got in your account, along with the projected cost of your taxes and insurance.

It may say something like “escrow account has a shortage,” and as such, your new payment will be X to cover that deficit.

You can typically elect to begin making the higher mortgage payment to cover the shortfall, or pay a lump sum to boost your escrow account reserves so your monthly payment won’t change.

Fortunately these annual payment fluctuations will probably be minor relative to an ARM’s interest rate resetting or an interest-only period ending.

Ultimately, it’s usually quite nominal because the difference is spread out over 12 months and typically not all that large to begin with.

But it’s still good to be prepared and budget accordingly as your housing payments will likely rise over time.

The takeaway here is to consider all housing costs before determining if you should buy a home, and make sure you know how much you can afford well before beginning your property search.

You’d be surprised at how the costs can pile up once you factor in the insurance, taxes, and everyday maintenance, along with the unexpected.

At the same time, mortgage payments have the ability to go down for a number of reasons as well, so it’s not all bad news.

And remember, thanks to our friend inflation, your monthly mortgage payment might seem like a drop in the bucket a decade from now, while renters may not see such relief.

Read more: When do mortgage payments start?

Source: thetruthaboutmortgage.com

What Is a Mortgagee? Hint: It’s Not a Typo

Are You a Mortgagee or Mortgagor?

It’s mortgage Q&A time! Today’s question: “What is a mortgagee?”

No, it’s not a typo. I didn’t leave an extra “e” on the word mortgage by mistake, though it may appear that way.

Despite its striking appearance, it’s actually a completely different word, somehow, simply with the mere addition of the letter E.

Don’t ask me how or why, I don’t claim to be an expert in word origins.

Seems like a good way to confuse a lot of people though, and it has probably been successful in that department for years now.

You can blame the British English language for that, or maybe American English.

Anyway, let’s stop beating up on the English language and define the darn thing, shall we.

A “mortgagee” is the entity that originates (makes) and sometimes holds the mortgage, otherwise known as the bank or the mortgage lender.

They lend money so individuals like you and I can purchase real estate without draining our bank accounts.

It could also be your loan servicer, the entity that sends you a mortgage bill each month, and perhaps an escrow analysis each year if your loan has impounds.

The mortgagee extends financing to the “mortgagor,” who is the homeowner or borrower in the transaction.

So if you’re reading this and you aren’t a bank, you are the mortgagor. It’s as simple as that.

Another way to remember this rather confusing word jumble; Who is the mortgagee? Not me!!

Mortgagor Rhymes with Borrower, Kind Of

mortgagor

  • Here’s a handy way to remember the word mortgagor
  • It kind of rhymes with the word borrower…
  • Or even the word homeowner, which is also accurate if you hold a mortgage on your property

I was trying to think of a good association so homeowners can remember which one they are, instead of having to look it up every time they come across the word.

I believe I came up with a semi-decent, not great one. Mortgagor rhymes with borrower, kind of. Right? Not really, but they look and end similar, no?

Anyway, the real property (real estate) acts as collateral for the mortgage, and the mortgagee obtains a security interest in exchange for providing financing (a home loan) to the mortgagor.

If the mortgagor doesn’t make their mortgage payments as agreed, the mortgagee has the right to take possession of the property in question, typically through a process we’ve all at least heard of called foreclosure.

Assuming that happens, the property can eventually be sold by the mortgage lender to a third party to pay off any attached liens, or mortgages.

So if you’re still not sure, you are probably the mortgagor, also known as the homeowner with a mortgage. And your lender is the mortgagee. Yippee!

What makes this particular issue even more confusing is that it’s the other way around when it comes to related words like renters and landlords.

Yep, for some reason a landlord is known as a “lessor,” whereas the renter/tenant is known as the “lessee.” In other words, it’s the exact opposite for renters than it is for homeowners.

But I suppose it makes sense that both landlord and mortgage borrower are property owners.

What About a Mortgagee Clause?

mortgagee clause

  • An important document you may come across when dealing with homeowners insurance
  • Stipulates who the lender (mortgagee) is in the event there is damage to the subject property
  • Protects the lender’s interest if/when an insurance claim is filed
  • Since they are often the majority owner of the property

You may have also heard the term “mortgagee clause” when going through the home loan process.

It refers to a document that protects the lender’s interest in the property in the event of any damage or loss.

It contains important information about the mortgagee/lender, including name, address, etc. so the homeowners insurance company knows exactly who has ownership in the event of a claim.

Remember, while you are technically the homeowner, the bank probably still has quite a bit of exposure to your property if you put down a small down payment.

For example, if you come in with just a 3% down payment, and the bank grants you a mortgage for 97% of the home’s value, they are a lot more exposed than you are.

This is why hazard insurance is required when you take out a mortgage, to protect the lender if something bad happens to the property.

Conversely, if you buy a home with cash, as opposed to taking advantage of the low mortgage rates on offer, it’s your choice to insure it or not.

But more than likely, you’ll want insurance coverage on your property regardless.

In summary:

Mortgagee: Bank or mortgage lender
Mortgagor: Borrower/homeowner (probably you!)

About the Author: Colin Robertson

Before creating this blog, Colin worked as an account executive for a wholesale mortgage lender in Los Angeles. He has been writing passionately about mortgages for 15 years.

Source: thetruthaboutmortgage.com