PITI, not the “feel sorry” word, stands for a mortgage payment that includes the loan principal, interest, taxes and insurance. Everyone is familiar with the idea that a mortgage payment is essentially installment repayment of a home loan. Not everyone understands why a mortgage then changes from year to year.
What’s Buried in the PITI Payment
Here are the basic four parts that most mortgages will include, either as direct payments or as payments to an escrow account from which the related cost is paid later on. These components include:
The Principal – The liability that a person takes on with a home loan is the actual money borrowed. This is known as the principal. When a loan is repaid, the principal is the biggest part of risk for the lender until the amount is recovered. It will always be in a mortgage payment as the core part.
The Interest – Things don’t come free. Every service, including a loan, comes with a cost. The way that a lender makes a profit lending money is by charging interest. This is calculated as a percentage every year of the money borrowed.
If the loan is borrowed long enough, the amount of interest collected with repayments can actually exceed the loan. No surprise, lenders have a big focus on collecting interest because that’s where the return occurs for their investment.
Taxes – Every consumer real estate property will have property taxes applied to it by the regional local government, usually a county. That money has to be collected consistently, and lenders don’t like the idea of it going unpaid as the county can then seize the property and sell it to someone else (which means the lender could lose the both the loan and the home collateral be broke as a result).
To ensure that taxes are taken care of, many mortgage lenders will require the borrower pays an amount each month to contribute to the taxes due. The amount will usually be one-twelfth of the total taxes due for the year, added to the monthly mortgage bill.
The funds are then held in an escrow account and send to the county when due. Since it’s an estimate, the amount may not be exactly correct, so adjustments are made every year, changing the mortgage payment as a result by a few hundred dollars.
Insurance – While not a requirement unless one’s home is in a high-risk zone; home insurance does protect a home from damage and provides the funds to repair it. Lenders will insist a policy is taken out on a home financed so that again their collateral is protected if the loan isn’t paid back.
The policy cost will be split similar to property taxes and paid annually from an escrow account as the component in the mortgage payment is collected. Not every home insurance amount is included; the variation depends on what the lender wants to take care of from one region to the next.
So, it’s quite possible one lender only covers basic insurance and leaves specific protection like earthquake insurance to the homeowner to take care of. Other lenders in the same area might insist all are covered. This PITI payment difference can impact the total paid each month.
Most buyers don’t find this out until they have completed a purchase and are locked in, so it’s always smart to ask exactly what will be required in an escrow before finalizing the home purchase. Better yet, determine the likely payment and everything included to know that sufficient cash flow will cover the monthly bill.
