When escrow is used, a monthly mortgage payment is called a PITI payment. That’s because each one covers a portion of the following four costs:
- Principal — the loan balance
- Interest — interest owed on that balance
- Real estate Taxes — taxes assessed by different government agencies to pay for school construction, fire department service, etc.
- Property Insurance — insurance coverage against theft, fire, hurricanes and other disasters.
Borrowers can choose to pay their real estate taxes and insurance in lump sums when they come due, rather than in monthly installments to their escrow accounts.
Depending on the kind of mortgage a borrower has, the monthly payment may also include a separate levy for private mortgage insurance (PMI) or government-backed mortgage insurance premiums.
The breakdown of each payment (the amount that goes toward principal, interest, etc.) changes over time because mortgages are based on a repayment formula called amortization. That’s a fancy term meaning the lender spreads the interest you owe on the mortgage over hundreds of payments so that the overall loan is as affordable as possible.