What Is a Mortgage?
A mortgage is a loan specifically used to purchase real estate — typically a home. Unlike most loans, a mortgage is secured by the property itself, meaning the lender can foreclose (seize and sell) the property if you stop making payments.
Most residential mortgages in the US have 15 or 30-year terms, with monthly payments that include principal repayment, interest, and typically property taxes and insurance.
Understanding mortgage calculations before you buy is crucial. Even a 0.5% difference in interest rate on a $300,000 loan translates to over $30,000 in additional interest over 30 years.
The Four Components of a Mortgage Payment: PITI
When lenders and real estate professionals talk about your "mortgage payment," they usually mean the full PITI payment:
- P — Principal: The portion that reduces your loan balance
- I — Interest: The cost of borrowing
- T — Taxes: Property taxes, collected monthly and paid to your local government annually
- I — Insurance: Homeowner's insurance plus PMI if your down payment is below 20%
Many first-time buyers are surprised to find their actual monthly payment is 30–40% higher than the principal and interest alone.
Example on a $350,000 home with 10% down:
- Principal & Interest: $1,895/month
- Property Tax (1.2%): $350/month
- Homeowner's Insurance (0.5%): $146/month
- PMI (0.8% on loan): $210/month
- Total PITI: $2,601/month
The Mortgage Payment Formula
The monthly principal and interest payment is calculated using the loan amortization formula:
M = P × [r(1+r)^n] ÷ [(1+r)^n - 1]
Where:
- M = Monthly payment
- P = Loan amount (home price minus down payment)
- r = Monthly interest rate (annual rate ÷ 12)
- n = Number of payments (years × 12)
Example Calculation
$280,000 loan at 6.8% for 30 years:
- r = 0.068 ÷ 12 = 0.005667
- n = 30 × 12 = 360
M = 280,000 × [0.005667 × (1.005667)^360] ÷ [(1.005667)^360 - 1]
M = 280,000 × [0.005667 × 7.688] ÷ [7.688 - 1]
M = 280,000 × 0.04354 ÷ 6.688
M = $1,824/month (P&I only)
How Much House Can You Afford?
The 28/36 Rule
The traditional guideline used by most lenders:
- 28% rule: Your total housing costs (PITI) should not exceed 28% of your gross monthly income
- 36% rule: Your total debt payments (housing + car loans + student loans + credit cards) should not exceed 36% of gross monthly income
Example:
- Gross income: $80,000/year = $6,667/month
- Maximum housing (28%): $6,667 × 0.28 = $1,867/month
- Maximum total debt (36%): $6,667 × 0.36 = $2,400/month
If you have $500 in other monthly debt payments, your maximum housing payment would be $2,400 - $500 = $1,900/month.
The 3x Rule
A simpler rule: don't buy a home priced more than 3 times your annual gross income. At $80,000 income, that's a $240,000 maximum home price. In high-cost cities, this ratio often stretches to 4–5x, though this increases financial stress.
Modern Lender Guidelines
Many lenders now approve loans with debt-to-income ratios up to 43–45% (total debt payments as a percentage of gross income). Just because you're approved doesn't mean you should borrow the maximum — high housing costs leave little room for savings, emergencies, or enjoying life.
Down Payment — How Much Do You Need?
Conventional Loans (Most Common)
- Minimum: 3% (first-time buyers) or 5% (repeat buyers)
- PMI threshold: 20% down eliminates PMI
- Recommended: 20% to avoid PMI and lower monthly payments
FHA Loans (Government-Backed)
- Minimum: 3.5% with credit score 580+
- 10% down with credit score 500–579
- Mortgage insurance premium (MIP) required regardless of down payment amount
- Good for buyers with lower credit scores
VA Loans (Veterans)
- Minimum: 0% (no down payment required for eligible veterans)
- No PMI requirement
- Competitive interest rates
USDA Loans (Rural Areas)
- Minimum: 0% in eligible rural and suburban areas
- Income limits apply
Impact of Down Payment on Monthly Payment
On a $400,000 home at 7% interest:
| Down Payment | Loan Amount | P&I Payment | PMI | Monthly Total |
|---|---|---|---|---|
| 5% ($20,000) | $380,000 | $2,530 | $253 | $2,783 |
| 10% ($40,000) | $360,000 | $2,397 | $240 | $2,637 |
| 20% ($80,000) | $320,000 | $2,130 | $0 | $2,130 |
| 25% ($100,000) | $300,000 | $1,996 | $0 | $1,996 |
Understanding PMI (Private Mortgage Insurance)
If your down payment is below 20%, lenders require PMI. This insurance protects the lender (not you) if you default.
- Typical cost: 0.5–1.5% of the loan amount annually (0.8% is a common estimate)
- On a $300,000 loan: $150–$375/month
- When it ends: Automatically cancels when your loan balance reaches 78% of the original purchase price, or you can request cancellation at 80%
How to Eliminate PMI Sooner
- Make extra principal payments to reach 80% LTV faster
- Request a new appraisal if your home has appreciated (many lenders will cancel PMI if market value puts you below 80% LTV)
- Refinance once you have 20% equity
Fixed vs Adjustable Rate Mortgages
Fixed-Rate Mortgage
- Interest rate never changes
- Payment stays the same for the life of the loan
- More predictable, better for long-term homeowners
- Generally higher starting rate than ARMs
Adjustable-Rate Mortgage (ARM)
- Lower initial rate (typically 0.5–1% lower than fixed)
- Rate adjusts after an initial fixed period (5/1, 7/1, 10/1 ARM)
- Can increase or decrease based on market indexes
- Good for buyers who plan to sell within the fixed period
Common ARM structures:
- 5/1 ARM: Fixed for 5 years, adjusts annually after
- 7/1 ARM: Fixed for 7 years, adjusts annually after
- 10/1 ARM: Fixed for 10 years, adjusts annually after
15-Year vs 30-Year Mortgage
This is one of the biggest decisions in home financing:
| Factor | 15-Year | 30-Year |
|---|---|---|
| Monthly payment | Higher | Lower |
| Total interest paid | Much less | Much more |
| Build equity | Faster | Slower |
| Flexibility | Less | More |
| Interest rate | Lower (~0.5–0.75% less) | Higher |
Example: $300,000 at 7% (30-year) vs 6.5% (15-year)
- 30-year: $1,996/month, $418,527 total interest
- 15-year: $2,613/month, $170,266 total interest
The 15-year saves $248,261 in interest but costs $617/month more. If you invest that extra $617/month at 7%, after 15 years you'd have approximately $190,000 — roughly similar to the interest savings, with more flexibility.
The True Cost of Homeownership
Beyond the mortgage payment, budget for:
- Maintenance: 1–2% of home value annually ($3,000–6,000 on a $300,000 home)
- Utilities: Often higher in a house than an apartment
- HOA fees: $200–800+/month in many communities
- Closing costs: 2–5% of purchase price, paid upfront
- Moving costs: $1,000–5,000+ depending on distance
When Should You Refinance?
Refinancing replaces your current mortgage with a new one, potentially at a lower rate. The general rule is to refinance if:
- You can lower your rate by at least 0.5–1%
- You plan to stay in the home long enough to recoup closing costs (typically 18–36 months)
- Your credit score has improved significantly since your original mortgage
Calculate Your Mortgage Payment
Use our mortgage calculator to see your complete monthly payment including principal, interest, property tax, homeowner's insurance, and PMI. Adjust the down payment slider to see exactly how a larger down payment reduces your monthly obligation. The calculator also shows your total interest paid over the life of the loan — a number that often surprises first-time buyers.