Articles & Tips
Home Equity and Mortgage Amortization
If you are a homeowner looking for a mortgage loan, no doubt you have heard the term "mortgage amortization" by now. Amortization is a concept that relates to the way an interest-bearing loan is paid, and it also applies to other types of loans besides mortgages, including auto loans and personal loans. Understanding exactly how mortgage amortization applies in a home loan will help you to become more savvy in the ways of home mortgages.
Mortgage amortization is set up according to a schedule that covers the term of the mortgage loan, which is often thirty years, but can be as little as ten or fifteen years. The amortization schedule is structured so that the earliest loan payments are applied to a higher proportion of interest, and as the loan nears maturity, the payment applies more to the principal balance. Homeowners who are not familiar with the mortgage amortization concept often mistakenly assume that their monthly payments reduce the amount they owe on their mortgage by the full amount of the payment; in fact, this is far from the truth. In the first year or two of a home mortgage loan, the monthly payment is applied almost entirely to the interest due on the mortgage, and only after several years does the monthly payment start to make a substantial dent in the principal balance owed.
The theory behind structuring a mortgage amortization schedule in this way is that the lender, who assumes a certain amount of risk when they approve a mortgage loan, should be paid first, just in case the borrower defaults on the loan. In the rare case of a default and foreclosure, the lender will be able to sell the home and recoup the balance of the principal, but they will not be able to regain the interest that is due on the loan. By structuring the mortgage amortization schedule so that the homeowner pays a disproportionate amount of interest up front, the lender is afforded some protection against this possibility.
To see how your monthly payments are divided into interest and principal portions, ask your mortgage lender for a copy of the mortgage amortization schedule. The lender can provide you with this detailed schedule even before you close on your mortgage loan, so you can see exactly how your payments will be applied even before you commit to the mortgage. In addition, online mortgage amortization calculators are available on many websites that can approximate the interest and principal payments for any given mortgage loan.
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