When you get a mortgage, it’s a long-term loan. Mortgages are to help you buy a house. You repay the principal, and in addition, you make interest payments to your lender. The home and the land you purchase are your loan collateral.
Principal and interest are the two basic elements making up every mortgage. Below, we talk more about what they are and the implications for you as a borrower.
What is a Principal Payment?
When you get a loan, the principal is the amount of money you initially borrow. Your principal is simply a calculation of the final selling price of your home, minus your down payment. The principal is one of the main things you use to guide your budget and how much home you can afford.
The principal you borrow begins to accumulate interest right away.
You pay off your mortgage in monthly installments for a period of time, which is usually either 15 or 30 years.
The term outstanding mortgage principal refers to how much you have left to pay on your home loan.
Interest on a Mortgage
Your principal isn’t the only thing you’re paying each month when you get a mortgage. You’re also paying interest. Interest is like a fee the lender is charging you to let you borrow money.
Interest is charged as a percentage.
You pay money toward both your principal and interest each month, and the two are combined into a single monthly payment that goes to your lender.
Does Your Mortgage Principal Change?
You’re paying down your principal over the years each time you make a payment on your mortgage, but with the vast majority of home loans, your monthly payments aren’t changing. You will end up paying less interest over time, however.
You’re paying less interest because if your rate is 3%, as an example, 3% of a smaller remaining principal is going to be less than 3% of your entire principal at the time you get your loan. You’re putting more toward your principal as time goes on, even though your payments stay the same.
There are a few rare times when your payments could change.
One example is if you get an adjustable-rate mortgage. There are two main types of home loans. One is adjustable-rate, and the other is fixed-rate. With a fixed-rate loan which is more common, your interest rate is the same throughout your loan’s life. With an adjustable-rate mortgage, there are periodic changes in the rate you pay. If the rate goes up, so do your monthly payments.
If you have private mortgage insurance or PMI, your lender cancels it after you get enough equity in your home, so that may change your payment.
If you refinance, you’re replacing your old mortgage with a new one. The terms of the new one will be different, so that will mean you’re getting a new interest rate, monthly payments, and term length. Your principal could potentially change when you refinance, but it doesn’t automatically have to.
Finally, you can pay more than the minimum toward your mortgage. You can pay more monthly or in a lump sum. When you make extra payments, you reduce your principal, so you can pay less in interest every month.
When you reduce how much you pay in interest, you get lower monthly payments.