Buying a home is expensive.
The purchase price and ensuing mortgage payments are bad enough, but then you must add on closing costs, moving costs, appliances, and furniture, and God knows what else!
But did you know that there’s more that determines your monthly mortgage payment than the purchase price?
Obviously, the price of the home is the biggest factor. The more expensive the home, the higher the mortgage, that’s a given. However, there are some other factors that can significantly sway mortgage costs, as much as several hundred dollars a month!
A home is likely to be the most expensive purchase you will ever make, and so it’s doubly important to know what you’re getting into. It’s also important to be aware of tips and tricks that can keep your costs down as much as possible while getting the best home you can afford.
Trust us, being aware of these somewhat “hidden” factors can make a big difference in the type of home you are able to buy, as well as the money you’ll pay per-month for it.
Alright, lets get to the goods.
Here are the 4 things that can drastically impact your mortgage payment.
This is a big one.
No matter the price of the home you buy, the interest rate you pay will drastically impact your mortgage payment. Not only could your monthly payment be higher, but a higher interest rate drastically affects how much you will pay for the home over the life of the loan due to added mortgage interest.
What determines your interest rate?
Yep, your credit score.
We’ve got something on that too. If you want to know more about credit scores and the factors that determine them, check out our Credit Score article.
For the purposes of this post, the thing you need to know is that your credit score determines your interest rate, and your interest rate helps determine your payment. The higher the interest rate the higher the interest, and the higher the mortgage payment.
For instance, check out this table of the difference in mortgage payments depending on interest that we created on the myFICO website.
We chose a 30-year loan with a starting principal of $200,000, but you can do this with any amount. Keep in mind that these numbers DO NOT include taxes and insurance, just principal and interest.
The difference is immense. Just a difference of 1 ½ percent increases the monthly payment by almost $200!
Not only that, but you’d pay almost $70,000 more in interest over the life of the loan!
And here’s the thing, it doesn’t matter what the national interest rates are because you’ll only get the best rates if you have a good/great credit score. This means your credit score will need to be around 760 or better to get the lowest rates, have the lowest mortgage payment, and pay the least in interest over the life of the loan!
Because the interest rate makes such a huge impact on your mortgage payment and the interest you’ll pay overall, we recommend working to bring your credit score up as much as possible BEFORE looking to get pre-qualified for a mortgage. This will also give you more time to pay down existing debt and save up for a bigger down payment, which leads us to the next factor that can greatly affect your mortgage payment.
Related: 5 Years in and I’ve Already Saved Time and Money off My Mortgage
A lot has been made of FHA loans and for good reason. With the prices of homes climbing so rapidly over the last 30 years and so many with lower credit scores, it’s become very difficult for people to qualify for a conventional loan.
That’s because a conventional loan requires you to have a higher credit score (680-700 or above) and to put at least 5% of the purchase price down on the home upfront. For example, if you bought a home for $300,000, you would need a down payment of at least $15,000 to qualify for a conventional loan.
To make matters worse, if you do not put at least 20% down you will pay mortgage insurance, no matter the type of loan you have.
With the high cost of homes, combined with a tendency toward increased debt and little saving, it’s no wonder most people can’t afford a 20% down payment!
This is also the reason why most people (especially first-time home buyers) go for a conventional loan with less than 20% down or an FHA loan with a significantly smaller down payment.
However, did you know that putting less than 20% down carries an extra cost?
Yep, if you put less than 20% down you must pay something called mortgage insurance.
Mortgage insurance is an additional cost that can drastically impact your mortgage payment. It’s something that lenders tack on as extra security for loaning the money.
Essentially, if you can’t put down 20%, then you’re seen as a riskier buyer. This means you are more likely to default on the loan (in the eyes of the lender) and they are at an increased risk of not getting their money back. Thus, you must pay extra to insure the lender gets as much money back as possible.
Basically, you are penalized for not having as much money by paying more money in the form of mortgage insurance.
YOU HAVE TO PAY INSURANCE ON YOUR MORTGAGE!
Just how much insurance?
That depends on the loan.
Those with a conventional loan who put less than 20% down pay private mortgage insurance and those with an FHA pay mortgage insurance premium.
Generally, mortgage insurance is anywhere between 0.5% and 1% of the initial loan amount. The rate is determined via the lenders table using the loan-to-value ratio of the home (how much you owe versus what the home is worth).
While these numbers are general, based on the range above an initial principal balance of $200,000 will mean your mortgage insurance payment could be anywhere from an extra $83 to $166 a month!
On the bright side, with a conventional loan you’ll only pay mortgage insurance until you reach 20% equity in the home (what you reach right away with a 20% down payment). This means you’ve paid the mortgage balance down to 80% of the home’s original appraised value.
However, be aware that if you have an FHA loan you may be paying mortgage insurance premium for the life of the loan (this depends on the loan-to-value ratio at purchase).
Another option to get rid of mortgage insurance is to refinance. Once the value of your home has risen to a level where you have 20% equity, refinancing with the new appraised value will eliminate the mortgage insurance and lower your monthly payment. However, be aware that you’ll pay a fee to refinance, so it may take time to recoup the cost of refinancing through the loss of monthly mortgage insurance.
Like with interest rates and your credit score, we recommend taking your time and saving as much as possible for a down payment before buying a home.
Even if you can’t reach the coveted 20% down, a bigger down payment will mean a lower mortgage interest amount, and you will be able to reach 20% equity in a shorter amount of time. At that time, you will be able to drop mortgage insurance altogether with a conventional loan and some FHA loans.
The impact of taxes was not something I had previously thought of until I was looking to buy my first home several years ago. Property taxes are something you’ll need to pay on any home, and they are generally higher depending on the size/value of the home and the location.
For instance, homes in urban Oregon generally have higher property taxes then homes in rural Oregon. Similarly, homes in some states generally have higher property taxes than those in others.
But, did you know that property taxes can vary greatly within the same general area?
Truly, property taxes can also greatly impact your mortgage payment.
My target location was a few areas within one county just outside Portland. While looking, I noticed that the property taxes were vastly different depending on the city the home was in, and it wasn’t just the size of the house that came into play.
How could comparable properties in the same general area have such vastly different taxes?
Voter-passed taxes increased revenue for the city, usually because of measures to support schools.
Thus, a home in one city could cost around $3,000 a year in taxes (like mine), while a house just down the street could cost you $4,500 a year!
Why do the taxes matter?
Higher taxes mean a higher monthly mortgage payment.
Take my example above. Property taxes of $3,000 a year break down into a $250 monthly amount, while taxes of $4,500 a year break down to $375 a year.
That’s a $125 difference, just in property taxes!
That $125 could mean the difference between buying a home for $250,000 or one for $275,000.
It did for me. I could actually afford a nicer, more expensive home in some areas because of the difference in property taxes on my monthly payment.
And the other thing about property taxes?
They don’t go away.
Unlike your mortgage, you will never pay them off. In fact, they will generally go up every year!
Long story short: pay attention to property taxes.
Last but not least (well, kinda least) are homeowner’s association (HOA) fees, which will also impact your mortgage payment if you have them. These don’t generally apply unless you’re buying a condo or live in some sort of community, but if they do, they can add a good chunk to your monthly payment.
HOA fees cover community expenses that you benefit from. For instance, if you live in a condo there may be a pool, gym, and a staff of maintenance people keeping the building and facilities in tip-top shape. There are a lot of hassle and costs associated with keeping all those amenities running smoothly so you don’t have to.
That money must come from somewhere, and it comes out of your pocket.
HOA fees can vary greatly depending on the type of community and the amenities that they cover. For instance, my grandparents pay somewhere around $50 a year in their neighborhood for road maintenance and whatnot.
However, if you have a condo in a large community with lots of amenities, you may find yourself paying several hundred dollars a month!
Several hundred dollars a month for HOA fees is a major added expense and something you must factor in when deciding how much payment you can afford.
Related: What Is a Reverse Mortgage and Is It Right for You?
Moral of the Story
While a mortgage is expensive enough in itself, there are 4 secret factors that can add to the cost even more and drastically impact your mortgage payment.
First, the interest rate you get can sway your monthly payment by several hundred dollars and tens of thousands of dollars over the life of the loan. Interest rates are determined by your credit score, which is why it’s so important to work on increasing your score before looking to buy a house.
Next is mortgage insurance, the cost of making a small down payment. Again, your monthly payment could jump over $100 a month with the addition of mortgage insurance, which is why it’s best to save up as much as possible for a down payment before looking to buy.
Property taxes are another hidden factor that can greatly affect your monthly mortgage payment. Property taxes are largely determined by the size of the house and location but can also be affected by voter-passed measures. As with interest rates and mortgage insurance, property taxes can bump up your monthly payment by $100 or more a month.
Finally, we have HOA fees, the cost of having amenities you don’t have to maintain. While you’re not likely to pay them unless in a condo or some other community, they can leave a dent in your finances and are something to be aware of.
Let’s leave you with this hypothetical situation. Let’s say you bought a condo with a principal balance of $200,000, a credit score of 630, put 5% down, owe $4,500 a year in property taxes, and have HOA fees of $100 a month.
With this scenario, you would be potentially paying an extra $168 a month in interest, around $150 a month for mortgage insurance, $375 a month in property taxes, and $100 a month for the HOA.
In this scenario, you would be paying $793 a month for extra interest, mortgage insurance, high property taxes, and an HOA.
And that’s just the extra.
What could you do with an extra $793 a month? Probably buy a nicer house.