Paying down your mortgage over time

Amortization is a word with a couple of meanings. The most common describes the amount of principal and interest that make up each monthly payment on your mortgage. The payment itself is always the same number, but over time, the amount applied to the principal portion increases and the interest portion shrinks. Often you will hear real estate professionals refer to the amortization schedule, which is simply a table showing each of your monthly payments, separating the principal and interest components, until the loan is completely paid.

A mathematical equation exists to calculate the principal and interest for each monthly payment. However, an easier and much faster method is to use an amortization calculator to do the arithmetic for you. For example, if you have a $100,000 fixed-rate mortgage with a 30-year term and an annual interest rate of 6.34 percent, the monthly payment is $621.58. At the end of the 30-year period, you'll have paid $123,771.48 in interest and $100,000 in principal. The interest paid, in this instance, represents 124 percent of the principal. As mentioned previously, in the early stages of your mortgage, your interest payments are far greater than your principal payments, and by the time you've paid off the loan, those numbers have completely reversed themselves. In this specific example, after the first 12 months, interest payments are five times the principal payments.

A feature with many adjustable-rate mortgages is negative amortization. This occurs when you make a minimum payment to your mortgage that is less than the interest and principal owed for that particular period. The lender adds the difference to your principal. Many borrowers do this as a way to afford a larger, more expensive house than they otherwise could afford. A typical deal will offer a low start rate for up to six months; after that, the rate adjusts monthly. In times of rising interest rates, this type of mortgage can have devastating effects, including foreclosure.

Although generally discouraged, those who do make good candidates for such a loan are people who are relatively certain that their income will rise dramatically in future years, enabling them to make higher payments to repay the deferred interest.

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