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# Understanding Mortgages

Although it’s usually easy to find out
the interest rates of mortgages
because most mortgage companies
advertise these rates openly, there
is a lot more that goes into a loan
and interest rates than most people
realize. For that reason, finding the
best mortgages that are also the
cheapest mortgages in the long run
can be difficult without a good understanding of how a mortgage works.
Terms
Principle - this is the total amount that you are borrowing. In the following
calculations, we’re going to use $200,000 for the principle.
Interest - this is the amount that you have to pay in addition to the principle.
We’re using a 7.5 percent fixed interest rate.
Amortization Formula - the calculations a mortgage company uses to
determine the amount that you will pay every month in both interest and
against the principle. The monthly amount you would pay on a $200,000 30-
year fixed-rate mortgage of 7.5 percent interest is $1,400.
Explanation
Here’s how the amortization formula works. Interest is quoted as a yearly rate
but charged on a monthly basis, so for a yearly interest rate of 7.5 percent,
you will be charged 0.625 percent interest every month of whatever is
remaining on the balance of the principle.
The first month, your principle is still $200,000. The monthly interest of 0.625
percent on this amount is $1,250. This is the amount you pay in interest for the
first month. The rest of the $1,400 you pay each month goes toward your
principle: $150. Now, the next month, your principle will be down to $199,850.
The second month, you would pay $1,249 in interest and $151 toward your
principle, resulting in the same total of $1,400.
So, every month, most of your monthly payment goes toward the interest, and
the rest of it goes toward the principle. As you continue making monthly
payments, the principle will continue to go down which means your monthly
interest will be lower and you will make larger payments on your principle.
Adjustable Rate Mortgages
Although these calculations were based on a fixed-rate mortgages, you can
also get an adjustable rate mortgage (ARM). With ARMs, the calculations are
done the same way, but they are based on a changing interest rate. The
amount you pay on your interest and toward your principle changes every
month, but the total amount that you pay every month will remain the same.
Annual Percentage Rates
You will notice that mortgages come with two different rates. The interest rate,
which covers your monthly payments, was fully explained above. The other
rate is the APR, the annual percentage rate. This rate will be higher than the
interest rate, and it includes all of the additional fees that a mortgage has
displayed as an interest rate, and includes the actual interest rate. What the
APR is for you is an opportunity to compare loans on how many extra fees
they include. This APR does not actually affect the monthly payments, but
mortgage companies have to display it by law.
Conclusion
When you begin your search for the cheapest mortgages, you’ll find that the
best mortgages have low interest rates that will allow you to pay off more of
your principle more quickly. If you want to pay off your house more quickly,
then you can pay more than the minimum amount every month and be putting
more money toward your principle each month which will help you pay it off
faster.

## Remember ...

So, every month,
most of your
monthly payment
goes toward the
interest, and the
rest of it goes
toward the
principle.