If you're on the journey to homeownership, you've likely encountered the terms "principal" and "interest" in relation to your mortgage. These terms represent the fundamental aspects of what you're borrowing and the associated costs. However, there's more to your mortgage payment than just these two elements. Collectively, these expenses are referred to as "PITI."
What does PITI Stand For?
PITI is short for principle, interest, taxes, and insurance. This is what makes up your monthly mortgage payment.
Deconstructing the Four Components of a Typical Mortgage Payment
While most mortgages include these four core components, it's worth noting that certain loan types, like interest-only loans, may exclude the principal component. Additionally, some mortgages require private mortgage insurance (PMI) or mortgage insurance (MI), and properties such as condominiums and cooperatives may come with common/maintenance charges or homeowner's association (HOA) fees.
Principal: The amount that pays back and reduces the loan balance. For instance, if you purchase a $500,000 house with a $100,000 down payment, your principal amount would be $400,000, calculated as $500,000 minus $100,000.
Interest: The ongoing cost of borrowing the money.
Taxes: Real estate or property taxes, held in an escrow account.
Insurance: Homeowners or hazard insurance, held in an escrow account. Can also include mortgage and/or flood insurance. If your down payment is less than 20% on a conventional mortgage, you'll likely need to pay for private mortgage insurance (PMI). However, once you've accumulated 20% home equity, you can eliminate PMI, reducing your overall PITI payment. If you put down 20% or more, you can bypass PMI altogether.
Beyond your payment, it is wise to budget for some maintenance expenses. The cost of upkeep for your home will vary with the age, type, size, structure, and materials used.
Why is PITI Important to Lenders?
Mortgage lenders, such as Emerald Home Loans (EHL), set limits on how high your debt-to-income (DTI) ratio can be. If your PITI payment exceeds your DTI, it could result in a smaller mortgage pre-approval or, in the worst case, loan denial.
There's a general rule of thumb suggesting that your total monthly debt, including mortgage payments, car payments, credit cards, utilities, and more, should not exceed 36% of your gross monthly income. Lenders usually follow a similar guideline when assessing a borrower's eligibility for a mortgage, though the specific criteria depend on the lender, borrower, and mortgage program.
First, let’s clarify what the lender does when qualifying a borrower for a mortgage. The lender qualifies a borrower for a maximum monthly payment that they can afford based on the borrower’s current financial situation, as well as the down payment amount.
Remember, your monthly mortgage payment includes PITI – principal, interest, taxes, and insurance. Many online mortgage calculators don’t include all four components. Again, just because you qualify for a certain monthly payment, that doesn’t mean you should purchase a home that puts you right at that limit or anything close to it.
To determine how much you can borrow from a lender, consider using our Mortgage Affordability Calculator. It provides a lender's perspective on the amount you can comfortably afford.
What’s Not Included In your PITI?
- Maintenance and Repairs
- Condo or HOA Fees
In summary, PITI—comprising principal, interest, taxes, and insurance—forms the foundation of your monthly mortgage payment. Understanding and managing these components is crucial when pursuing homeownership. Lenders evaluate your PITI payment in relation to your income and debt to determine your mortgage eligibility. Remember that your PITI doesn't cover utilities, maintenance, or condo/HOA fees, so a comprehensive budget is essential for responsible homeownership.