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When buying a new property, understanding your mortgage principal is necessary to make wise financial decisions. The principal is the foundation of your home loan, and knowing what it is and how it works can save you thousands of dollars over the life of your mortgage.
In this guide, we'll break down everything you need to know about a mortgage principal, from basic definitions to calculation methods, so you can feel confident about your home financing decisions.
What’s a mortgage loan principal?
Your loan principal is the original money you borrow from a lender to purchase your home, which is the base amount that doesn't include interest, fees, or other loan costs. So when you take out a mortgage, the principal represents the home purchase price minus your down payment.
Understanding your loan principle is easier when you think of it as the money you owe to your lender before any interest. For example, if you buy a $300,000 home and put down $60,000, your mortgage principal would be $240,000. You'll pay this principal amount over the life of your loan, plus interest.
Your mortgage principal balance changes over time as you make payments. Each monthly payment includes both principal and interest, with the principal portion going toward reducing the amount you owe.
Initial principal vs. outstanding principal
When discussing mortgage principal, you'll encounter two different amounts that serve different purposes in tracking your loan. Here's how they compare:
| Type | Definition | Changes Over Time | Where to Find It |
|---|---|---|---|
| Initial principal | The original loan amount you borrowed at closing | Stays the same throughout your loan term | Your original loan documents |
| Outstanding principal | The current amount you still owe on your mortgage | Decreases with each payment you make | Monthly mortgage statement or lender's online portal |
As you make payments over time, your outstanding principal gets smaller while your initial principal remains unchanged. This distinction matters when considering refinancing or calculating how much equity you've built in your home.
Interest vs. principal
The key difference between interest versus principal is that your principal is the actual money you borrowed, while your interest is the cost of borrowing that money.
Interest and principal payments combine to make up your total monthly mortgage payment. Early in your loan term, you'll pay more toward interest than principal. But as your principal balance decreases, you'll pay less interest each month, and more of your payment will reduce your principal.
This relationship means that making extra principal payments early in your loan can reduce the total interest you'll pay over time. Even small additional payments toward your principal can save you thousands of dollars in interest charges.
How do you calculate principal and interest on a mortgage?
Principal and interest calculations can help you budget effectively and make informed decisions about your loan. These calculations involve your loan amount, interest rate, and term.
How to calculate your mortgage principal
To calculate your mortgage principal, subtract your down payment from your home's purchase price. Similar to the example above, if you're buying a $400,000 home with an $80,000 down payment, your mortgage principal would be $320,000.
You can also calculate your remaining principal balance by examining your loan amortization schedule. This schedule shows precisely how much of each payment goes toward principal and how much goes toward interest throughout your loan term.
Your lender will also factor in any closing costs rolled into your loan. Some borrowers choose to finance their closing costs rather than pay them upfront, which increases their mortgage principal. Better makes this process transparent by clearly showing how closing costs affect your loan amount.
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How to calculate interest
Your monthly interest payment is calculated by multiplying your outstanding principal balance by your annual interest rate and dividing by 12 months. For instance, if you owe $300,000 at a 4% yearly interest rate, your monthly interest payment would be approximately $1,000.
The interest calculation changes monthly because your outstanding principal decreases with each payment. Fixed-rate mortgages use the same interest rate throughout the loan term, making calculations predictable. Adjustable-rate mortgages can have changing interest rates, which affect your monthly interest calculations when the rate adjusts.
Paying off your mortgage principal
When you make your monthly mortgage payment, part of that sum reduces your principal balance. Lenders call this process amortization, and they design it so that you'll completely pay off your principal by the end of your loan term.
As you continue making payments, the principal portion of each payment increases while the interest portion decreases. By the final years of your loan, most of your payment will go toward principal reduction. This shift accelerates your equity building and brings you closer to owning your home outright.
Reducing your overall mortgage principal
You have several budgeting options for reducing your mortgage principal faster than your regular payment schedule requires. Here are some popular strategies for cutting down that principal early:
Make biweekly payments: A year has 12 months, but 52 weeks, so instead of 12 monthly payments, make one payment every two weeks — effectively adding an extra monthly payment by the end of the year. This additional payment goes directly toward your principal balance.
Use windfalls for extra payments: Apply tax refunds, work bonuses, inheritances, or other unexpected money directly to your principal balance. Even small additional payments early in your loan can have a big impact on your total interest costs.
Round up your monthly payments: Round up your monthly payments to the nearest $50 or $100, with the extra amount going toward principal. This simple strategy can save you thousands over your loan term.
Can your principal or interest change over time?
Yes. Your mortgage principal and interest can increase or decrease depending on your loan type and terms. Understanding these potential changes helps you plan for your long-term financial commitments. Here are a few terms to know.
Adjustable-rate mortgage (ARM)
With an adjustable-rate mortgage, your interest rate can change periodically based on market conditions. Because of this volatility, ARMs typically offer lower initial interest rates than fixed-rate mortgages.
However, if rates increase, more of your payment will go toward the interest portion of your loan and less toward principal reduction, something most homeowners want to avoid. ARMs can be an excellent opportunity to finance a home during an ebb in rate inflation — just keep your eyes on the market.
Mortgage amortization
Your standard mortgage amortization schedule shows how your principal and interest payments change over time. While your total monthly payment stays the same during a fixed-rate mortgage, the split between principal and interest shifts throughout your loan term. You'll build equity slowly at first, then more quickly as your loan matures.
Refinance, or refi
The mortgage refinancing process can change your principal balance, interest rate, and timeline. When you refinance, you're essentially taking out a new loan to pay off your existing mortgage. If you refinance for the same amount you owe, your principal stays the same, but your interest rate and payment terms can change. Cash-out refinancing increases your principal balance but gives you access to your home's equity for other financial needs.
Better offers a handy refinancing calculator and simple refi options to help you secure more favorable terms or access your home's equity.
Put your mortgage principal knowledge to work
Understanding your mortgage principal is essential for making smart homeownership decisions. As you make payments over time, your principal balance decreases, and you build equity in your home. That equity gives you options, including a refi or applying for a rate adjustment.
Whether you're a first-time buyer or looking to refinance, Better can help you understand your mortgage options and find the right loan for your situation. Our streamlined application process makes it easy to get pre-approved and move forward with confidence in your home financing journey.
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