There are terms and acronyms peculiar to the mortgage industry. As a homebuyer shopping for a house loan, one of the things you must know about is PITI, which stands for Principal, Interest, Taxes, and Insurance. 

Understanding PITI and how it can affect your monthly mortgage payments can help you know how much you can afford and plan your budget accordingly. Here is a guide to learn more about this subject. 

What is PITI?

There are four main components of a mortgage payment: the principal, interest, taxes, and insurance. PITI, which is an acronym, makes it easier to recall these four components. 

It is not uncommon that homebuyers fail to consider the insurance and taxes when they get a home loan, thus underestimating the actual cost of homeownership. Budgeting for your monthly payments requires a good grasp of these four elements of a home loan. 

A Breakdown of the Acronym PITI

As you now know what PITI means, it is time to examine each of the four components of a monthly mortgage payment.

Principal

The term for the amount before you calculate the interest is referred to as mortgage principal or loan principal. This amount is also the base price of the property minus your down payment. 

For example, if your home purchase price is $390,000 with a 20% down payment ($78,000), the principal amount of your mortgage will be $312,000. 

Lenders use the mortgage principal as a base amount of what they can afford to lend you based on your creditworthiness and other factors. Of course, the interest will add to the cost of the mortgage, which means you will be paying more than $312,000. 

Interest

Interest is another component making up your monthly mortgage payments. The interest rate is the percentage of a home loan’s outstanding principal. If your mortgage has a 6% interest rate and your principal loan amount is $312,000, you will pay $18,720 in interest for the first year of your home loan. 

There is an amortization table that itemizes your principal and interest payments. This chart details how you pay off your mortgage over time (e.g., a 15-year loan term). You will mostly be paying off your interest over the first year, and as it decreases, most of your monthly payments go toward your principal. 

Taxes

Homeownership requires you to pay property taxes. Homebuyers often fail to consider property taxes as part of the total cost of owning a house. The property tax rate depends on your location. Typically, highly coveted or newer neighborhoods have higher property taxes. 

The value of your home and the local property tax rate determine how much you will pay in property taxes. A financial advisor will likely suggest allocating as much as $1 for every $1,000 of the value of your property on a monthly basis. Say, the house is worth $390,000; you will be paying approximately $390 monthly in property taxes. 

Insurance

There are two concepts that may fall into the “insurance” component of PITI: private mortgage insurance and homeowner’s insurance.  

• Private Mortgage Insurance. The PMI is required if you put less than the 20% down payment on your mortgage, serving as a protection to the lender in case of default. Your credit score and down payment can influence your PMI rate. You can eliminate PMI if the equity of your home increases by at least 20% and your loan-to-value ratio is 80% or less. 

• Homeowner’s Insurance. This insurance is vital to cover the homeowner and the lender in case of fire, break-in, or storm damage on the property. Lenders will require you to buy and maintain this insurance during the entire loan term. It is advisable to look for good insurance coverage before closing on the property. Insurance premiums for properties differ depending on the insurance company. 

The 28% Rule

Understanding PITI is vital because it provides a rough estimate of the purchase price range affordable to you. You can use a housing expense ratio that takes into account your housing expenses and monthly household budget. Experts say the costs of housing should be 28% or below your monthly household budget. 

Of course, there may be other monthly expenses you should consider when owning a property aside from PITI. After all, each component of PITI has a complexity that you cannot exactly pinpoint using a broad estimation. 

Endnote

A home purchase is indeed exciting. But, before you sign a mortgage contract, it is wise on your part to determine your ability to make payments according to your PITI and other monthly expenses. You should also understand the process of applying for a mortgage and buying a property when deciding on a home purchase. Always remember that purchasing a home is a crucial financial decision in your life.