Mortgage amortization refers to the process of paying off a mortgage loan through regular installments over a specified period. Here are some key points to know about mortgage amortization:
Definition: Mortgage amortization is the gradual repayment of a loan's principal and interest over time. Each payment consists of both principal (the amount borrowed) and interest (the cost of borrowing).
Amortization Schedule: An amortization schedule is a table that shows the breakdown of each mortgage payment over the loan term. It includes the payment amount, the portion allocated to principal, the portion allocated to interest, and the remaining loan balance after each payment.
Principal and Interest Allocation: Initially, a larger portion of the mortgage payment goes towards interest, while a smaller portion reduces the principal. As the loan progresses, the interest portion decreases, and the principal portion increases. This shift occurs because the interest is calculated based on the outstanding loan balance.
Loan Term: The loan term is the agreed-upon period over which the mortgage is repaid. Common terms are 15, 20, or 30 years, although other options may be available. The longer the term, the lower the monthly payment, but the more interest is paid over the life of the loan.
Impact of Interest Rate: The interest rate directly affects the cost of borrowing. A higher interest rate means higher monthly payments and more interest paid over the loan term. Conversely, a lower interest rate reduces both monthly payments and the total interest paid.
Early Payments: Making additional principal payments or paying more than the required monthly payment can shorten the loan term and reduce the overall interest paid. It's important to check with the mortgage lender regarding any prepayment penalties or specific instructions for making extra payments.
Amortization and Equity: As you make mortgage payments, your equity in the property increases. Equity is the portion of the property you own outright, calculated as the difference between the property's value and the outstanding mortgage balance.
Understanding mortgage amortization helps borrowers grasp how their payments are allocated, the progression of building equity, and the overall cost of the loan. It's advisable to review the terms of the mortgage agreement and consult with a financial professional for personalized advice.
Ideally, you are re-evaluating your mortgage at renewal time (every 3, 5 or 10 years depending on your mortgage product). During renewal is a great time to review your amortization and payment schedules or make changes if they are no longer working for you.
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