Definition of Mortgage Principal
Mortgage principal refers to the outstanding balance of your mortgage.
Mortgage Principal is the amount borrowed from the lender, minus the amounts repaid to the lender, and which have been applied to the reduction of principal. As monthly mortgage payments are made, the mortgage principal is reduced.
Mr. McGillicuddy has a $200,000 mortgage at 5% interest and a 30 year amortization period. The monthly payment will be $1067.38. With the first payment, $824.78 will be used to pay the interest accrued in the first month of the loan. The remainder of $242.60 will be used to decrease the principal amount of the mortgage. The remaining principal will be $199,757.40. The mortgage principal at the beginning of the mortgage was $200,000, and after the first payment is made, the mortgage principal is reduced to $199,757.40.
Not all of your mortgage payment will be used to reduce the mortgage principal. Interest will need to be paid to the mortgage holder for the use of the money lent. This is a part of your monthly mortgage payment. Many people are surprised to learn how little of the mortgage payment made in the beginning of a loan is used to reduce the mortgage principal. In the above example, less than 25% of the mortgage payment will be applied to reduce the mortgage principal.
The reason for this is simple. Because the mortgage principal is at its highest in the beginning of the loan, and because the payments are spread out over a long period of time, usually 25 years or more, more interest will be charged at the beginning of the loan.
As the mortgage payments are made and the principal is reduced, a greater percentage of the mortgage payment is applied to decrease the principal.
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Reducing the Mortgage Principal
Besides making mortgage payments in a timely manner, there are other methods of reducing your mortgage principal, provided your mortgage permits additional payments, or prepayment.
For instance, making one additional monthly payment per year will reduce the principal enough to pay the mortgage off approximately 5 years sooner, and will save the homeowner $32,036.96 in interest charges over the life of the mortgage. A one time payment of $5,000.00 in year 3 of the mortgage will save the homeowner $13,344.21 in interest over the life of the mortgage.
At First Foundation, we can discuss with you ways of reducing your mortgage principal sooner.
If you are interested in learning more about Mortgage Principal, please feel free to contact us today!