You want to buy a house and you need to know what's in a monthly mortgage payment. So you find a mortgage calculator and put in an interest rate, purchase price, and down payment. It spits out your monthly principle and interest payment. "Wow! That's super cheap we can afford a much more expensive house than we thought!" Not so fast. There is more to your monthly payment than what first meets the eye. So then what's in a monthly mortgage payment?
The first part of your monthly expenses is your principle payment. The principle is the actual amount of money that you borrowed from your lender. If you purchase a $260,000 house and put 10% ($26,000) down your principle would be $234,000 (this is the actual amount of money you are borrowing). Every month when you make your mortgage payment, part of the payment goes to reducing your principle balance. Likewise, anything that you pay in excess of the monthly payment goes directly to reducing your principle balance.
The second part of your monthly expenses is your interest payment. The interest payment is the amount of money you pay the lender each month for allowing you to borrow money. When you are quoted an interest rate by the lender, this is essentially how much they are charging you to borrow the money you need to buy a home. The length of your loan (think 15 years or 30 years) has an impact on the amount of money each month that goes toward your principle balance and the amount that goes toward interest.
When you secure a loan, the lender will create what is known as a schedule. This schedule has a breakdown of every single payment that you will make over the life of your loan. Each payment is then broken down further to show you how much of your payment goes toward interest and how much goes toward your principle balance each month. At the beginning of your loan, almost all of the payment goes toward interest! As you pay more and more toward your principle balance throughout the life of the loan, the amount going toward interest each month will decrease.
The principle and interest make up the two largest parts of your monthly expenses but they are far from the only expenses that you have. Property taxes also make up a significant portion of your monthly payment. Typically, your yearly property taxes are divided by 12 and this amount is collected each month by your lender. They then pay your property taxes each September, when they are due.
Your home will more than likely be the largest purchase of your lifetime and you are going to want to insure your investment. (Your lender will also require you to show proof of insurance to approve your loan). Homeowners insurance will cover you in the event of interior and exterior damage along with loss or damage of your personal property. The insurance will also protect you in the event of an injury occurring on your property. You will have to pay for this insurance every month.
Private Mortgage Insurance
When you do not put down 20% on the purchase price of your house, your lender will require you to take out a private mortgage insurance policy. This policy will protect the lender in the event that you default (stop paying) your monthly loan payments. While PMI does nothing to protect you (remember it is for the lender) it can still add a significant chunk to your monthly expenses (.5%-1.5% of purchase price). You have to ensure that you budget for this expense if you do not plan to put 20% down when you purchase your home.
Homeowner Association Fees
Chances are as a first time home buyer you will have at least one property on your list of potential homes that will have an HOA fee associated with it. HOA fees can be for a variety of different things. Usually, these fees are associated with condos and town homes because of the ownership structure of the common areas. Some items that may potentially be covered by HOA fees are: master insurance policy for the outside of a condo building, trash removal, water, pool maintenance (if there is a community pool), fitness center (if there is a fitness center), common area maintenance, common area electricity, and any other items that add benefit to all members of a community. These fees can range from $75-$500+ per month.
The above covers the majority of the reoccurring monthly expenses that you might can expect to have when you purchase a home. You can see how the "extra" expenses (those not titled principle and interest) can add up to 60% more to your monthly cost! That is a huge difference that you need to be prepared for when buying a home. Keep in mind, you may also want to budget a specific amount of extra money each month to cover repairs and maintenance on your home. And that's on top of what's in a monthly mortgage payment!