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Hi all,

This is something I probably should have thought of or asked earlier, but things happen right? :D

I'm just wondering exactly how does one's mortgage interest gets calculated?

For example, how much goes to the actual principal and how much goes to interest? Are they all calculated the same way? Or do individual banks have their own formulation?

cheers,
 

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Interest and Mortgage Formula Calculation

With mortgages, we want to find the monthly payment required to totally pay down a borrowed principal over the course a number of payments.The standard mortgage formula is:

M = P [ i(1 + i)n ] / [ (1 + i)n - 1]

Where M is the monthly payment. i = r/12. The same formula can be expressed many different way, but this one avoids using negative exponentials which confuse some calculators.

For our $100,000 mortgage at 5% compounded monthly for 15 years, we would first solve for i as

i = 0.05 / 12 = 0.004167 and n as 12 x 15 = 180 monthly payments

Next we would solve for (1 + i)n = (1.004167)180 using the xy key on the calculator, which yields 2.11383

Now our formula reads M = P [ i(2.11383)] / [ 2.11383- 1] which simplifies to

M = P [.004167 x 2.11383] / 1.11383 or

M = $100,000 x 0.00790 = $790.81

All of the rounding down I did makes a 2 cent difference on the monthly payment, compared with keeping all the digits the calculator can handle. Now, one important feature of the mortgage formula is that it's the principal is multiplied last, meaning that we can develop a table of mortgage rate multipliers for any fixed time period that will yield a monthly payment simply by multiplying the principal borrowed.

If you're curious to know how much interest you'd pay the bank over the course of the mortgage,just multiply the amount of the monthly payment by the number of payments and subtract the principal:

($791.81 x 180 ) - $100,000 = $142,525.80 - $100,000 = $42,525.80

The only bright side to paying the bank all of that interest is that in most cases, it's deductible on your Federal income tax in the in the years that it's paid. The savings to you depends on what tax bracket you're in. If you're only in the 10% tax bracket to start with, you're only getting a 10% discount on your taxes for carrying a mortgage. If you're in the 25% tax bracket, you're getting a 25% discount.

If you want to skip the formula and just read your monthly mortgage payment from a table, I've created fixed rate mortgage tables for 15 and 30 year mortgages, covering rates from 4.0% to 5.95%. Note, I use the same numbers from this page in my amortization formula example.
Source: How To Calculate Mortgage Payments
 

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Interest and Mortgage Formula Calculation

The only bright side to paying the bank all of that interest is that in most cases, it's deductible on your Federal income tax in the in the years that it's paid. The savings to you depends on what tax bracket you're in. If you're only in the 10% tax bracket to start with, you're only getting a 10% discount on your taxes for carrying a mortgage. If you're in the 25% tax bracket, you're getting a 25% discount.
Huh? Could you provide the reference from CRA allowing this deduction?

DAvid
 

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IRS is more like it :)

It was a good explanation of how mortgage interest is calculated

Generally CRA does not allow mortgage interest to be claimed on a principal residence.
 

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Hi all,

I'm just wondering exactly how does one's mortgage interest gets calculated?

For example, how much goes to the actual principal and how much goes to interest? Are they all calculated the same way? Or do individual banks have their own formulation?

cheers,
US and Canadian Mortgages are different so the info found on American websites will not satisfy those who are details oriented. Read Candian vs. US Mortgage Compounding for a good explanation of the differences.
 
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