What's in Your Monthly Mortgage Payment?
When people talk about mortgage payments, they often focus only on principal and interest. But your actual monthly payment includes four parts, known as PITI:
- Principal: Pays down what you borrowed (builds your equity)
- Interest: The lender's fee for lending you money
- Taxes: Property taxes held in escrow and paid on your behalf
- Insurance: Homeowner's insurance plus PMI if your down payment was under 20%
Example: On a $320,000 loan at 6.5% for 30 years, your payment breakdown might look like:
- Principal & Interest: $2,022
- Property Tax: $400 (varies by location)
- Insurance: $150
- PMI: $133 (if less than 20% down)
- Total Payment: $2,705/month
The Mortgage Payment Formula
The principal and interest portion uses this formula:
M = Monthly payment, P = Loan amount, r = Monthly interest rate (annual ÷ 12), n = Total payments
Worked example: $300,000 loan at 7% for 30 years
- Monthly rate (r) = 0.07 ÷ 12 = 0.00583
- Number of payments (n) = 30 × 12 = 360
- M = $300,000 × [0.00583 × (1.00583)360] / [(1.00583)360 - 1]
- M = $1,996/month for principal and interest
15-Year vs 30-Year Mortgage Comparison
| Feature | 15-Year | 30-Year |
|---|---|---|
| Monthly Payment | Higher | Lower |
| Interest Rate | Usually 0.25-0.5% lower | Higher |
| Total Interest Paid | Much less | Much more |
| Build Equity | Faster | Slower |
Frequently Asked Questions
How is a mortgage payment calculated?
The principal and interest portion uses the amortization formula: M = P[r(1+r)^n]/[(1+r)^n-1]. For a $300,000 loan at 7% for 30 years, that works out to about $1,996/month. Add property taxes (~1% of home value annually), insurance (~$1,500-2,000/year), and PMI if applicable to get your total monthly payment.
What is PMI and how can I avoid it?
PMI (Private Mortgage Insurance) protects the lender if you default. It is required when you put down less than 20%. PMI typically costs 0.5-1% of the loan annually ($100-250/month on a $300k loan). To avoid it: put 20% down, get a piggyback loan (80-10-10), or use a VA loan. Once you reach 20% equity, you can request PMI removal.
How much house can I actually afford?
Most lenders use the 28/36 rule: housing costs (PITI) should not exceed 28% of gross income, and total debt payments should not exceed 36%. If you earn $7,000/month gross, your maximum housing payment would be $1,960. But affordable means you can still save for retirement and emergencies - consider aiming lower.
Is a 15-year or 30-year mortgage better?
It depends on your priorities. A $300,000 loan at 7% costs $1,996/month over 30 years (total interest: $418,527) or $2,696/month over 15 years (total interest: $185,367). The 15-year saves $233,000 in interest but requires $700 more monthly. Choose 15-year if you can comfortably afford it; choose 30-year for flexibility (you can always pay extra).
Should I pay points to lower my rate?
One point costs 1% of the loan and typically lowers your rate by 0.25%. On a $300,000 loan, one point costs $3,000 and saves about $44/month at 7% vs 6.75%. Break-even: $3,000 ÷ $44 = 68 months (5.7 years). Pay points if you will keep the loan longer than the break-even period.
What credit score do I need for the best rates?
For conventional loans: 620 minimum, 740+ for best rates. FHA loans accept 580+ (or 500 with 10% down). Each 20-point credit score increase can improve your rate by about 0.125-0.25%. On a $300,000 loan, a 0.5% better rate saves roughly $90/month or $32,000 over 30 years.
What is escrow and why do I need it?
Escrow is an account where your lender holds money for property taxes and insurance. Each month, about 1/12 of your annual taxes and insurance is added to your escrow account. The lender pays these bills when due. This protects the lender (ensuring taxes are paid) and helps you budget (spreading large annual bills into monthly payments).