It’s sometimes difficult to understand how your mortgage payment is structured – that is, how much of the payment is interest and how much goes toward the principal to pay down the loan.
At the beginning of the mortgage process, you may receive an amortization table, which will show you how this is broken down for each payment.
As an example, if you have a $150,000 fixed rate mortgage for 30 years at 4%, your payments will be $716.12. In the first month, $500 of that will be interest and $216.12 will come off the principal. Your second payment is still $716.12, but you’ll pay less interest ($499.28) and more principal ($216.84).
The interest is about 70% of the total payment, but this will fall each month until it is near 0% at the end of the loan.
Comparison: 30-year versus 15-year mortgage
Now assume you have a fixed rate mortgage of $150,000 amortized over 15 years at 3.75%. (A loan with a 15-year amortization period likely will command a lower interest rate than one with a 30-year amortization period.) The monthly payment is $1,090.83, of which $622.08 will go toward the principal, and $468.75 to interest. While the payment is roughly one-and-a-half times that of the 30-year mortgage, the portion directed to principal is approximately three times that of the 30-year loan.
While a 15-year-mortgage may sound good, the monthly payment may be too high for you. In this situation, you can take a 30-year mortgage and make an additional payment toward the principal each month.
Over time, this may reduce the number of payments you make; every extra dollar you pay into the mortgage will reduce the amount you pay in interest on the remainder of the loan.
If you aren’t certain whether this approach is for you, discuss it with your mortgage professional. He or she can help you sort through your options.