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Money Smarts
Chapter 7 Money Smarts: Mortgage Payments
When you take out a mortgage, your lender
might require monthly payments to an escrow account. An escrow
account is an account in which money is held in trust
until it can be delivered to the designated party. Your lender
might require an escrow account to set aside money for property
tax and homeowners insurance.
If the mortgage amount is 80 percent or
more of the purchase price, your lender will probably require
you to buy private mortgage insurance (PMI), a policy
that protects the lender in case you cannot make payments.
Notice that PMI is different from homeowners insurance. As
the principal of the loan is paid down or the value of your
home increases, the PMI should be removed from your monthly
payment.
The size of your monthly payment is also
affected by the term of your loan. A loan with a shorter term
has a bigger monthly payment. A longer-term loan will cost
you more in interest expense.
Go to the BusinessWeek Online Personal
Finance Homes calculators. Under Mortgage Calculators,
click on “Which is better: 15- or 30-year loan term?”
Input the following values:
| |
Shorter
term |
Longer
term |
| Interest rate |
6.00% |
7.00% |
| Loan amount |
$125,000 |
$125,000 |
| Term (years) |
15 |
30 |
| Discount points |
1.000 |
1.000 |
| Origination fee |
0 |
0 |
| Upfront costs |
$1,000 |
$1,000 |
| |
|
|
| Your state + federal tax rate |
|
33.8% |
| Purchase price |
|
$150,000 |
| Yearly property tax |
|
$2,000 |
| Yearly property insurance |
|
$400 |
| Years before you sell or pay off the
loan |
|
12 |
| Your savings rate |
|
4% |
Click on the “get your results”
button and answer the following questions.
- What is the monthly amount paid for principal and interest
for a 15-year mortgage? What is the monthly amount paid
for taxes and property insurance? For PMI? (The calculator
calls PMI “mortgage insurance.”) What is the
total monthly payment?
- What is the total monthly payment for a 30-year mortgage?
What is the difference between the 15-year payment and the
30-year payment? Which loan will cost you less overall?
How much less?
- Click the INPUTS tab and change the shorter term interest
rate to 5 percent. Which loan will cost you less and by
how much?
- Why would you choose a 30-year loan over a 15-year loan
if the cost is so much higher?
- Click on the INPUTS tab and change your loan amount to
$100,000. Why did your mortgage insurance go to $0?
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