Once upon a time, most Americans filed their taxes on paper by hand, learning along the way how their financial decisions impacted their tax bill and savings. Today, at least four out of five Americans pay somebody else to file their taxes or utilize interview style tax software on their home computers to prepare the filing. The result is that everybody "knows" mortgage interest is tax deductible, but everybody doesn't know that less than half of American tax payers with mortgages actually get to deduct the interest they pay. The math in question behind mortgage payments, taxes and housing affordability isn't complicated, but it's unfamiliar to most consumers. The goal of this workbook is to reveal the calculations behind the scenes to help you make informed decisions about your financial future. At the least, it should help you come up with questions to ask your lawyer, banker or accountant before closing.
We start with an introduction to compound interest, which underlies all mortgage math. Next we introduce the mortgage formula, which gives the monthly payment required to pay off a fixed rate mortgage so you own the house at end of the loan term. We follow up with solved examples of how to do fixed rate mortgage calculations for fifteen and thirty year mortgages. Next we introduce tables that allow you to quickly determine the monthly payments for mortgages in the current interest rate environment
By law, all lenders in the U.S. must provide the customers with information about their loan before asking you to sign on the dotted line. The best known consequence of this law is the advertisement of mortgage rates featuring the Annual Percentage Rate (APR), which is supposed to allow potential borrowers to comparison shop for loans. We
look at what goes into the APR and how you can solve for the APR given the monthly payment for your mortgage. Unfortunately, a number of technicalities make the APR less useful than it might have been if mortgages were structured transparently.
Next we look at how your monthly mortgage payment is divided up between interest and principal, which is the layman's definition of amortization. An amortization table allows you to determine how much mortgage interest can be used for a potential tax deduction each year, plus it tells you how much principal you owe on your mortgage at any time, should you have the ability and the desire to pay the mortgage off early. Using the results of our amortization calculations, we look at how the mortgage interest deduction affects your Federal income tax liability. We also provide a compact table showing the maximum interest deduction for a range of interest rates and mortgage amounts so you can estimate how this deduction may affect your personal situation.
We wind up with a discussion of rules of thumb for housing affordability, and some of the special factors that may play into your situation. There are no universal rules that apply everywhere in the U.S. or even in every city within a state. State income taxes and local property taxes play a role in affordability calculations, as do utility costs, which are frequently overlooked. We close with a look at how to compare the cost of heating with different fuels in colder areas of the country.
Version 1.2 now available for download. Includes new appendix with tables showing the monthly payment per $1,000 of principal for 15 year and 30 year fixed rate mortgages from 0% to 20% interest in 0.05% increments.