Mortgage Basics

What is a Mortgage?
A mortgage is a loan secured by real estate. In other words, in return for the funds necessary to purchase a home, a lender gets your promise to pay back the funds over a certain period at a certain cost. Backing your promise to repay is the property. Should you default, or stop paying, the loan, the lender would take over ownership of the property. The repayment of the mortgage is done thru monthly payments.

What Does My Mortgage Payment Include?
Usually, your monthly payment is made up for four parts: principal, interest, taxes, and insurance (PITI), but it can also include maintenance fees, such as homeowner’s association dues. The principal is the amount in your monthly payment that reduces the original amount borrowed. Over the life of a standard mortgage loan, the entire original amount borrowed is generally scheduled to be fully paid off. The interest rate is the fee charged to borrow the outstanding balance for the past month. In addition, a monthly amount may be collected and held in a separate escrow account to cover property taxes, homeowner’s insurance and mortgage insurance. Your lender uses the money in the escrow account to pay your tax and insurance bills, as they come due.

Mortgage Payment Breakdown
Principal + Interest + Taxes + Insurance = PITI

Principal is the amount of money you borrow based on the sale price of the home. During the first several years of your mortgage term, your monthly payment includes only a small portion that repays your original principal. As you continue to make payments, a greater portion of your payment goes to reduce the principal.

Interest is the cost of borrowing money. In the first several years of your mortgage, your monthly payment is mostly interest. As you continue to make payments, a smaller portion of your payments goes to interest.

Taxes are paid by homeowners to local governments. Tax amounts vary depending on where you live.

Escrow Account Typically, the portion of your monthly payment that covers taxes and insurance is held in a special account by your lender. Then, when these bills are due, the lender forwards the payment on your behalf to the local government or insurance company. This process is known as escrow. Using escrow for taxes and insurance is an option for the homeowner and not a requirement. Once your mortgage is paid in full, you are still responsible for taxes and hazard insurance.

Insurance offers financial protection in the event of a loss. Homeowner’s or hazard insurance protects you against financial losses on your property as a result of fire, wind, or natural disasters. Most lenders will require you to have an insurance policy on your home because it will help protect their investment, as well as yours.

Mortgage Insurance (MI) is required on certain loans to protect the lender against financial losses if the borrower fails to repay the loan. Loans insured by FHA/HUD require a mortgage insurance premium (MIP), while VA loans require a funding fee. Conventional loans, or those without government backing, can be insured with a private mortgage insurance (PMI) policy.

Jennifer Clark • 10200 Hickman Rd., Ste. 100 • Clive, Iowa 50325
(515) 208-2255 • FAX (515) 331-4301
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