If you've started to look for a mortgage, you may have run across the term "PITI." Very simply, PITI is an acronym that helps you remember the different components of a mortgage payment: Principal, interest, taxes and insurance. Combined, these are amounts you'll pay to your lender each month toward your home.
While it seems simple on the surface, PITI can carry a lot of weight. Lenders consider PITI when trying to decide whether to approve you for a mortgage. Can you afford this payment as a reasonable portion of your monthly income? If not, or if it exceeds a certain percentage of your income, lenders may be more reluctant to extend a home loan to you.
It's helpful to understand each component of PITI, what it means for you and your specific circumstances and how you can calculate an affordable loan amount and PITI payment that will keep you financially sound.
The parts of PITI: Principal, interest, taxes and insurance
These four parts of your total mortgage payment can change over time. When you first buy your home, though, this total will dictate how large of a loan you can qualify for and, by extension, how much you will spend on your property.
Principal is what you pay back toward your loan. Let's say you're buying a house that costs $300,000, and you have a down payment of $60,000. You'll need to borrow $240,000; that amount is your principal. Each month, a portion of your mortgage payment goes toward paying back the principal amount that you borrowed.
The amount of principal you pay each month will change. At first, a lot of your monthly mortgage payment will go toward interest. By the end of your loan term, most of your payment will go to principal. This is why you may end up still seeing a higher principal balance than you anticipated in the initial years of homeownership.
You pay your lender interest for the service of borrowing money over many years. It's the cost of borrowing, and it is usually expressed as an annual rate.
For example, if you get a 30-year fixed-term mortgage with a 5% interest rate or a $240,000 mortgage loan, you'll end up paying interest of $12,000 your first year. However, as your principal goes down, the amount of interest also decreases because there's less to pay interest on. By the time you've paid your loan down to $100,000, you'll only pay $5,000 a year in interest.
If you're interested in seeing how much of your monthly payment goes to principal and how much goes to interest each year, you can request a mortgage amortization table.
The amount of property tax you pay will be determined by your state, county and city or municipality, as well as the value of your home. These taxes go to fund schools and public services.
Usually, these taxes are assessed on an annual basis, but lenders often include 1/12 of the annual amount in your monthly mortgage payment so you pay some each month instead of having to pay one large sum each year. Your lender will hold the payments in escrow and make the property tax payment for you.
There's a reason why many homebuyers work to put down at least 20% — it's the minimum down needed to eliminate paying private mortgage insurance, or PMI for Conventional mortgages
PMI is insurance that protects your lender if you default on your loan. If you haven't put very much down, and your lender must foreclose on the property, they'll incur more expenses than they can recoup. That's why you have to pay for insurance against that possibility until you've built up enough equity to protect the lender against loss.
Even if you have a large enough down payment, and don't need to pay for PMI, you may pay for your homeowners (aka hazard) insurance policy through a portion of your monthly payment. Just like with property taxes, many lenders include homeowner's insurance in your payment and your lender holds this amount in escrow and pays your premiums each year. Most lenders require you to carry homeowner's insurance. You may also be asked to have other types of specialty insurance, such as flood insurance if your home is in a flood plain.
Why do lenders consider PITI when deciding whether to give you a mortgage?
PITI is a useful tool for lenders to determine how much of a monthly payment you can comfortably make.
The reason for keeping your PITI as low as possible is so you'll be less likely to struggle to pay your mortgage, which could lead to default. Lenders don't want to take on risky mortgages and may not consider your application if your monthly income is too low to adequately cover your PITI.
Lenders also want to make sure you're not carrying too much debt. They'll calculate your debt-to-income ratio to make sure car payments, student loan payments and other consumer debt won't impact your ability to make mortgage payments. You can get a rough estimate of this ratio by adding up all your monthly expenses, including things like car and student loan payments, and dividing by your monthly income.
Many lenders prefer that your debts are 43% or less of your monthly income. If you do carry a higher debt-to-income ratio, you may still be able to get a mortgage if you have compensating factors.
How do you calculate PITI?
It's a good idea to calculate the maximum PITI payments you can afford. You can use an affordability calculator to estimate the total cost of the home you can buy, and these calculators include detailed principal, interest, tax and insurance breakdowns.
You can also prequalify for a mortgage. Your lender will calculate your likely PITI and give you an idea of the price range of homes you can look for.
What else do you need to know about PITI?
Some lenders may include other expenses when calculating how much you can afford to spend in housing costs. On occasion, there may be an “A” at the end (PITIA), the “A” would be included when the property is a condo or Planned Unit Development (PUD)such as homeowner's association (HOA) fees.
You may also have monthly maintenance costs, utility payments and other costs of owning a home that you'll need to consider when determining how much house you can purchase. It's a good idea to have some money set aside to help you through times when you have an emergency expense, like an immediate repair. Though your lender will not calculate these expenses as part of your mortgage obligations, they may figure it into your debt-to-income ratio. If you don't consider these costs when planning for buying a home, you could find yourself in financial difficulty even if you're able to make your mortgage payment each month.
A Home Lending Advisor can help you calculate your PITI and estimate how much home you can afford. Our knowledgeable advisors understand the specifics of buying in your state or area and are there to assist you throughout your homebuying journey. Contact a Home Lending Advisor to take the first step toward homeownership.