PITI stands for Principal, Interest, Taxes, and Insurance, which represent the four components of a property owner’s monthly mortgage payment. By combining the numbers from each of these initials, a mortgage lender estimates the loan you can afford based on your current income.
When a lender decides whether they will lend you money to buy a house, you might think their only concern is if you can make the mortgage payments they require. No! They worry about your ability to “carry” the house and meet other major bills like property taxes and home insurance.
These bills are usually paid by the company where you send your monthly mortgage payment. They pay the lender their principal plus interest, then pay taxes and insurance on your behalf. These four payments combined are called PITI.
Isn’t affording the house enough?
Unfortunately no. If you are buying to live in the house or rent it out to others, your lender wants to know you can afford to carry the house. This means not only meeting your obligations for principal and interest payments but also staying up to date on your property tax and insurance payments.
What does PITI stand for?
PITI is not an expression of sadness or remorse. That’s pity, a different concept. PITI is an acronym for Principal, Interest, Taxes, and Insurance. It represents the four major components that make up your mortgage payments.
What’s included in PITI?
PITI calculates your estimated mortgage payments and, as we mentioned earlier, multiple factors help determine this final number.
This is the portion of the mortgage loan you pay off each month. Think of it as a big rock you hit with a chisel or a mountain of dirt you attempt to move with a shovel. The work is planned out ahead of time for you.
If you have a 30-year mortgage, 360 whacks with the hammer or shovel eventually complete the task. The good news is every month you remove a little bit more than you did the last month.
This is the portion of your monthly mortgage payment your mortgage lender is paid for loaning you the principal. It’s a percentage of the outstanding loan. The good news is the interest portion declines by a tiny amount every month as the principal shrinks.
As the years progress, the interest portion of the payment goes down as the portion of the principal being paid off gets a little larger. Put another way, the total of principal and interest stays the same, but the percentages gradually change.
Note: The principal and interest are the two components making up the majority of your mortgage payments. They will eventually disappear when you make your last payment, and the mortgage is paid off. If you sell the house after a few years, the remaining principal will be paid off at once.
If you refinance the house at a lower interest rate, or seek to get a bigger mortgage because the property value appreciated and you want to take cash out, the PITI calculation process starts over again.
As a homeowner, you pay property taxes to the local government through two bills: property taxes on the real estate and school taxes.
The mortgage company knows these must be paid and doesn’t want to leave the responsibility in your hands. They calculate the monthly payment and usually want the payment to be made through the mortgage service provider. If you read the bill, you will see they often offer options on how the homeowner can choose to pay. They might get a discount for paying early or paying the bill in thirds before the due date. None of this matters if the mortgage service provider makes the payments on your behalf. They collect a set amount each month, based on your total tax bill.
You pay your town to live there and for the operation of the school system, regardless of whether you have children attending. These can be large bills and are calculated based on the value of your property. These taxes tend to increase gradually at the discretion of the people who run the township and the school board.
You need to carry homeowners insurance, also called hazard insurance. Why? Because you borrowed from a lender using the house as collateral. They want the property protected from damage like fire, storms, and trees falling on it. This is another component of your mortgage payments and is usually paid by the company servicing your mortgage.
Regardless of what the law says, your mortgage company will probably require you to get homeowners insurance. Why? They want their collateral—your house—protected. Insurance prices can vary by area. Some areas might be at risk for floods, hurricanes, or earthquakes, which may require extra insurance. The insurance company might even require the property to have a roof that was installed within a certain number of years.
It’s important to remember that your private mortgage insurance premiums are also included in this section. While not everyone has such payments, you may be required to get private mortgage insurance if you have a conventional loan and pay less than 20% of a home’s down payment.
Important! What happens if you buy a condo or a home in an area where there is group ownership of common areas? There is usually a local homeowners association in place.
HOAs often charge condo or homeowners association dues that might include a blanket insurance policy for the building or development. If that constitutes part of your insurance coverage, the bank will want that bill included in your monthly mortgage payment.
This is the money you pay upfront to buy the house. Your down payment isn’t included in your monthly payments, but it has an indirect effect. The larger your down payment, the smaller your mortgage loan. If you wanted to decrease the size of your monthly payments, you may want to make a larger down payment.
How do I calculate my PITI payment?
Your lender wants to know you can afford more than simply the monthly principal and interest payments. Can you afford the other charges for which you are responsible? They make their decision based on the combination of these four numbers. The following calculator can help you figure out for yourself what your PITI payment will be.
Principal and interest
Your bank or mortgage broker can estimate the size of your monthly mortgage payment based on the amount of money you borrow, the interest rate, and the length of your mortgage. They use a mortgage calculator, which you can easily access online yourself.
The listing details provided by your real estate agent should also show the property and school taxes on the house. Add the two numbers together, divide by 12, and you should get the monthly tax component.
While you pay these taxes in a lump sum once or twice a year, your mortgage servicing company collects your payments every month and holds the cash in an escrow account. In this case, an escrow account is set aside apart from the company’s other assets for your benefit. Be aware property and school taxes tend to rise over time.
Your real estate agent may know what the previous owner paid for homeowners insurance, which is a good guide. There are also online tools you can use to get an average rate based on your zip code, property value, and other details. This is another number that you should expect will grow over time because construction and repair costs go up.
Add these four numbers together and you should have your PITI number. Notice the last two of these four components will probably increase over time, increasing the size of your monthly mortgage payments. Your lender is concerned about the size of the number right now. They probably assume your income will also increase over time.
Throughout this example, let’s assume you took out a $300,000 loan with a 30-year term at 4% interest to purchase a house. Using this loan, you made a down payment of 20%, which comes out to $60,000. With the help of a mortgage calculator, you find the following:
- Principal and interest = $1,145.80
- Property taxes = $400.00
- Homeowners insurance = $111.00
This means your PITI would equal about $1,656.80. However, this assumes your property tax rates (1.6% in this example) and insurance rates, which may differ. This example also does not account for any HOA fees.
How does PITI impact my mortgage?
The PITI calculation makes a big difference to mortgage lenders, but why is that?
Establishes what you can afford
Some borrowers might think barely squeaking by with the combined mortgage and interest payment is all your lender cares about when they decide if they will lend to you. No! The mortgage lender wants to know you can “carry the house” and stay current on your other major obligations.
This means you should use the PITI calculation to determine not only what you can afford to buy, but what you can afford to carry. Once you know this calculation, you can see what house price and mortgage are comfortable for your budget and what would be beyond your means.
Tells mortgage lenders if they should work with you
Some people think real estate is the best way to make money quickly. They intend to put a “For Sale” sign on the front lawn the week after they buy the house.
Mortgage lenders see things differently. They want you to stay in the house until the mortgage is paid off, but they also want to know you can meet your monthly mortgage obligations based on your current income. Your mortgage lender also knows taxes and insurance will go up and assumes your income will increase too.
How can I make a bigger down payment?
By offering a large down payment, you avoid private mortgage insurance and ensure your monthly mortgage payments are smaller. However, saving up that much isn’t always easy. The average down payment is now 20%, which can be a large chunk of change depending on the property.
One way to help with this funding, other than putting aside money for years, is to get a shared equity agreement. We recommend starting the search with some of the companies below.
The 28% rule
How much house can you afford? Don’t worry, there’s a calculation for that too! The general assumption is a person can afford to spend up to 28% of their gross monthly income on housing.
That’s good news because the calculation is made on your income before taxes! One of the reasons might be home mortgage interest and property taxes are considered deductions up to certain limits when filing your personal income tax return.
How can you improve your PITI score?
You want to make the best impression when applying for a loan from your bank. Here are a few ways you can get your PITI score into better shape:
- Mortgage type. There are different types of mortgages. Talk with your loan officer or mortgage broker about what other types of mortgages are available. Can you pay points upfront to get a lower interest rate?
- Large down payment. The larger your down payment, the smaller your mortgage loan amount. The smaller the mortgage, the lower the monthly payments. If you look at less expensive houses, the mortgage will be smaller, and the taxes should be lower. This should lower your PITI score.
What is the maximum PITI?
Lenders usually expect borrowers to spend 28% maximum of their gross monthly incomes on housing expenses. However, another ratio lenders use as an eligibility requirement is 36%, but this includes all debt payments.
What is a PITI wash?
If the buyer purchases an investment property they intend to rent out to tenants, the rental income, not the buyer’s income, becomes the critical determining factor. The lender looks at the PITI number and the cost of carrying the property before comparing it to the rental income. In addition to this, rental properties force lenders to consider other factors, as rental properties sometimes remain vacant.
Who pays PITI?
The homeowner makes the monthly payment. The mortgage servicing company is dispersing the money, such as homeowner insurance premiums and property tax payments.
Can your PITI payments change?
Yes. In fact, you should expect them to change since property taxes and homeowner’s insurance premiums tend to increase over time. The mortgage servicing firm usually gets in touch with you at the end of each year, letting you know what your new payment will be for the following year.
- PITI stands for Principal, Interest, Taxes, and Insurance. These are the four major components of your payment to the company servicing your mortgage.
- PITI is a factor lenders use to determine if they will lend to you.
- The accepted ratio of housing expenses to gross income is 28%.
- To lower your PITI number, talk to your lender about different types of mortgages or offer a larger down payment.
Specialized loans for your unique lifestyle
Now that you know what goes into your PITI, you know what you can afford on the market. However, that’s only part of the process. Once you find out how much you can afford, you need to find the right lender. Start your search here by comparing reviews and rates to find the ideal lender for you.
View Article Sources
- Co-Op Housing — City of Boulder
- Cooperative Housing — U.S. Department of Housing and Urban Development
- What is a Multifamily Home? Everything You Need to Know — SuperMoney
- Moving Out of Your Parents House – The Definitive Guide — SuperMoney
- Best Renters Insurance for Apartments — SuperMoney
- Why New York Real Estate Is the New Swiss Bank Account — SuperMoney
Bryce Sanders is president of Perceptive Business Solutions Inc. He provides HNW client acquisition training for the financial services industry. His book, “Captivating the Wealthy Investor” is available on Amazon. Bryce spent twenty years with a major financial services firm as a successful financial advisor. He has been published in 40+ metro market editions of American City Business Journals, Accountingweb, NAIFA’s Advisor Today, The Register, LifeHealthPro, Round the Table, the Financial Times site Financial Advisor IQ and Horsesmouth.com.