What is Amortization in Mortgages?

Mortgage amortization is one of the most important aspects of buying a home. Why does it matter, and how does it work? In this article we'll dive into the details of mortgage amortization so you can understand how your loan works—and whether or not refinancing could help you save money on interest payments.

How does mortgage amortization work

Amortization is the process of paying down your mortgage principal over time. According to Investopedia, amortization typically refers to an accounting process used to periodically lower the book value of a loan or an intangible asset over a set period of time.

It works by paying a portion of your monthly payment toward the principal and another portion toward the interest of the loan. The amount you pay on your balance every month depends on how much you owe, how much interest it's accruing, what type of mortgage you have (fixed or variable), and how long you will have the loan.

The amortization period of your mortgage for Me?

The amortization period of your mortgage is the time it takes to pay off your loan. It's typically between 20 and 30 years, with shorter terms being more expensive and requiring you to make more substantial payments. If you want a lower monthly payment and a long term, you'll have to sacrifice some benefits of an artificially low-interest rate by extending the amortization period.

For example, let's say you're buying a $500,000 house and you're putting down $50,000 as a down payment. This means you'll be borrowing $450,000. If you have a fixed interest rate of 4.0% and a 25-year amortization period, your monthly mortgage payment would be around $2,371. Over the life of your loan, you would pay a total of $711,273 in principal and interest.

Now, let's say you decided to shorten your amortization period to 20 years. Your monthly mortgage payment would increase to around $2,692, but you would pay off your mortgage five years earlier and save over $88,000 in interest payments.

On the other hand, if you decided to lengthen your amortization period to 30 years, your monthly mortgage payment would decrease to around $2,148, but you would end up paying over $117,000 more in interest over the life of your loan compared to a 25-year amortization period.

Suffice it to say this stuff can get confusing which is where a mortgage specialist shines as they can help explain the ins and outs of mortgages, rates, amortization periods, and pitfalls to be wary of.

Why is amortization important?

Amortization is important because it gives you an understanding of how much your monthly payments will be for the life of your loan and precisely how much of those payments are going to interest, and principal at each point throughout the duration. This is going to help you assess whether or not you can afford the home that you're considering buying.

The amortization schedule also shows a breakdown of all payments made on their loans (interest vs principal). This can help you determine how much debt is being paid off over time with each payment, as well as how much debt remains at any given point in time.

In other words, amortization can be considered a good budgeting tool for individuals who want to own a home and are concerned about how much they will pay each month. It's also useful for those who want to determine how long it will take them to pay off their loans and become mortgage-free.

Why are mortgages amortized?

Mortgages are amortized so that the borrower can pay off a large loan over a longer period of time while allowing lenders to manage risk and protect their investment.

Amortization spreads out the payments of both the principal amount and interest accrued evenly over the life of the mortgage, providing the borrowers with a predictable payment schedule which helps to make it more manageable for borrowers, while also reducing the likelihood of default.

By paying off the principal and interest in regular increments, borrowers can eventually own their homes outright and lenders can earn a return on their investment.

Conclusion

Mortgages are a way to access homeownership by allowing you to buy a home without having to pay the full cost upfront. As you pay off your mortgage over time, you gradually build equity in your home, which can become a valuable asset.

In the long run, a mortgage can be a wise investment for your future. To fully comprehend the benefits of a mortgage and find the best options, consider working with a mortgage specialist such as Bonnie who can help you find the right mortgage for your situation.