A simple amortization table is a handy resource if you don't have one lying around. We talked about how powerful this can be as an educational tool for clients. I had to do one by hand when I was first learning the mortgage business...
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A mortgage amortization is a process by which you pay off a loan, such as a home mortgage, over a specific period of time with regular, equal payments. These payments are designed to cover both the principal amount (the amount borrowed) and the interest (the cost of borrowing the money) over the term of the loan.
Here is a simple excel version
Some things that most consumers may not understand about mortgage amortization and amortization tables:
1. **Interest is paid upfront:** With an amortizing loan, the majority of your initial payments go towards paying off the interest, not the principal. Over time, this ratio changes, and you begin to pay more of the principal with each payment. However, in the early years of a mortgage, you might not be building much equity, as most of your payment is going to interest. One thing that is shocking is that it takes 20-25 years to pay off the first 50% of interest (depending on your rate).
2. **Amortization schedule:** This is a table that details each payment throughout the life of the loan. It's broken down into how much of your payment goes towards interest and how much goes towards reducing the principal balance. (this is what I provided above)
3. **Prepayment can save you money:** If you make extra payments, those generally go directly to reducing the principal, which can save you significant money in interest over time. However, some loans might have prepayment penalties, so it's essential to understand your loan terms before making additional payments.
4. **Amortization period vs. term:** The amortization period is the total length of time it will take to pay off a mortgage completely (for example, 30 years). The term, on the other hand, is the length of time the interest rate on your mortgage is fixed (for example, 5 years). At the end of the term, you'll need to renegotiate your mortgage for the remaining balance and time left on the amortization period.
5. **Refinancing affects amortization:** If you refinance a loan, you essentially start the amortization process over again. This means early payments will be mostly interest again, which can slow down the rate at which you build equity. This is why refinancing can be a good idea if rates drop significantly, but not if you plan on selling in the near future or the rates haven't dropped significantly.
So, in summary, it's crucial to understand that a mortgage isn't just a uniform payment plan. It's a weighted system where interest is paid off initially and gradually decreases over time.
Mortgage Advisor Tip: At 5.31%, you pay the amount you borrow back in interest... Try it, use the table above and put in 5.31% as your rate.