An Overview of Amortization: It Plays A Role In Monthly Mortgage Payments

May 25, 2021
Last updated:
September 21, 2021
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Amortization plays an important role when it comes to a borrower’s monthly mortgage payments and more. Yet, many prospective buyers are not well-versed in the subject, especially if it is their first time purchasing a home.

Even though this may sound like a fancy word, amortization is simply a long word for a straightforward topic. Furthermore, it plays a significant role in the determination of monthly mortgage payments. As a result, before taking out a home loan, homeowners need to understand a few key components, including what amortization is, how their payment schedule works, and what this means for the future of the home loan.

Thus, in order to help homeowners get the answers they need, here is a common overview of amortization.

What Is Amortization?

Amortization refers to the way monthly payments are calculated to make sure that homeowners pay the same amount every month throughout the life of the loan. Even if homeowners do not stay in the house for the life of the loan, amortization will still play a significant role in the amount of money they receive if they decide to sell the home. Here, amortization happens every time a payment is made and subsequently covers two parts—the interest and the principal. The interest rate is calculated as a percentage of what is left of the principal and could be influenced by the borrower’s credit. The principal, on the other hand, is the amount borrowed from the lender, and the principal’s fewer payments against it is called the balance.

How Does Mortgage Amortization Work?

Going over a mortgage amortization table or schedule tends to be the easiest way to further understand this process. Typically, the mortgage amortization table is a grid that displays the amount of each payment that goes toward principal and interest. Plus, most schedules or tables detail how much of each payment goes to principal and interest, as well as show the remaining balance after each payment. In addition to amortization tables/schedules, many lending institutions also offer amortization schedule calculators to give prospective borrowers an idea of how their payments would be broken down over the loan term.

How Does Amortization Play An Important Role In Calculating Monthly Payments?

That said, amortization plays a major role in calculating monthly payments because it ensures that homeowners pay the same amount of money over the life of the loan. Even though there is interest on the home loan, and inflation will play a role in the value of money during the life of the loan, the monthly payment is going to stay the same. This is particularly beneficial to homeowners who are still working and believe that their income is going to go up during the life of a 15-year or 30-year mortgage. Even if their income goes up, and even if inflation plays a role, their monthly mortgage payments will still stay the same thanks to amortization.

Note, with adjustable-rate mortgages (ARMs), the lender can adjust the rate on a predetermined schedule, which would impact your amortization schedule. But be that as it may, most people do not keep the same home loan for 15 or 30 years. Rather homeowners often sell the home or refinance the loan at some point. However, it is worth noting that these particular loans work as if you were going to keep them for the entire term.

Does Amortization Affect Anything Else In Regard To My Mortgage?

Amortization also plays a role in calculating interest versus principal in monthly mortgage payments. At the beginning of the loan, the majority of each monthly payment goes toward interest on the loan. At the end of the loan, the majority of each monthly payment goes toward principal. This also means that if homeowners decide to sell their home at some point during the loan, they might not get as much money as they think because most of their monthly payments have gone toward interest and haven’t built up any equity. This is another key factor homeowners should keep in mind when it comes to amortization.

What Are The Key Takeaways Here?

Overall, mortgage amortization means that you are repaying your home loan via a series of fixed payments spread out over time. A portion of each payment goes towards interest costs, and some go toward your loan balance. Over time, you will pay less in interest and more towards your balance. An amortization table/schedule can help you understand how your payments are applied, and by the end of your payment table or schedule, your mortgage is paid off.

Ultimately, this is just a brief overview of the amortization process. Nevertheless, with a better understanding of what amortization is and how it works, you can be that much more prepared for evaluating different loan options. You can even calculate how much you would potentially save by paying your debt or mortgage off early. That said, if you would like to learn more about mortgage amortization or need help securing financing for your home purchase, then what are you waiting for? Contact a knowledgeable mortgage professional for further assistance.

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