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Bill Reetz, Realtor ®
GRI, CRS, ABR, CLHMS, E-Pro
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Welcome to CowboyRealEstate.com, where "We'll help YOU claim your piece of the West!" CowboyRealEstate.com is your best source for access to all properties for sale in Breckenridge, Copper Mountain, Dillon, Frisco, Keystone, and Silverthorne. When you are dreaming about a home, condo, or land, begin your search here. This beautiful mountain resort community in Summit County is waiting for you to "Experience the Rockies!"
| How
Mortgage Loans Work |
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Excluding
property taxes and insurance, a traditional fixed-rate mortgage
payment consist of two parts: (1) interest on the loan and
(2) payment towards the principal, or unpaid balance of the
loan.
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| Many people
are surprised to learn, however, that the amount you pay towards
interest and principal varies dramatically over time. This is
because mortgage loans work in such a way that the early payments
are primarily in interest, and the later payments are primarily
towards the principal. |
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| In the
beginning... you pay interest |
| To help
calculate monthly payments for loans based on different interest
rates, lenders long ago developed what are known as "amortization
tables." These tables also make it fairly easy to calculate
how much money of each payment is interest, and how much goes
towards the principal balance. |
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| For example,
let's calculate the principle and interest for the very first
monthly payment of a 30-year, $100,000 mortgage loan at 7.5
percent interest. According to the amortization tables, the
monthly payment on this loan is fixed at $699.21. |
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| The first
step is to calculate the annual interest by multiplying $100,000
x .075 (7.5 %). This equals $7,500, which we then divide by
12 (for the number of months in a year), which equals $625. |
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| If you
subtract $625 from the monthly payment of $699.21, we see that: |
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| $625
of the first payment is interest |
| $74.21
of the first payment goes towards the principal |
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| Next, if
we subtract $74.21 (the first principal payment) from the $100,000
of the loan, we come up with a new unpaid principal balance
of $99,925.79. To determine the next month's principal and interest
payments, we just repeat the steps already described. |
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| Thus, we
now multiply the new principal balance (99,925.79) times the
interest rate (7.5%) to get an annual interest payment of $7,494.43.
Divided by 12, this equals $624.54. So during the second month's
payment: |
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| $624.54
is interest |
| $74.67
goes towards the principal. |
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| Note: In
Canada, payments are compounded semi-annually instead of monthly. |
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| Equity |
| As you
can see from the above example, even though you pay a lot of
interest up front, you're also slowly paying down the overall
debt. This is known as building equity. Thus, even if you sell
a house before the loan is paid in full, you only have to pay
off the unpaid principal balance--the difference between the
sales price and the unpaid principle is your equity. |
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| In order
to build equity faster--as well as save money on interest payments--some
homeowners choose loans with faster repayment schedules (such
as a 15-year loan). |
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| Time
versus savings |
| To help
illustrate how this works, consider our previous example of
a $100,000 loan at 7.5 percent interest. The monthly payment
is around $700, which over 30 years adds up to $252,000. In
other words, over the life of the loan you would pay $152,000
just in interest. |
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| With the
aggressive repayment schedule of a 15-year loan, however, the
monthly payment jumps to $927-for a total of $166,860 over the
life of the loan. Obviously, the monthly payments are more than
they would be for a 30-year mortgage, but over the life of the
loan you would save more than $85,000 in interest. |
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| Bear in
mind that shorter term loans are not the right answer for everyone,
so make sure to ask your lender or real estate agent about what
loan makes the best sense for your individual situation. |
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