Most aspiring homeowners know the importance of figuring out how much home they can afford before they start looking at properties. But many may not truly understand the significance that property taxes and home insurance could play.
As reported in the Wall Street Journal, in September 2024, nearly one-third of the average single-family mortgage payment goes to property taxes and home insurance — the highest percentage on record. That means a $2,700 principal and interest payment could turn into a $4,000 monthly payment obligation once taxes and insurance are factored in.
Here’s what you need to know about property taxes and home insurance costs as you crunch the numbers on your future mortgage.
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What is PITI?
PITI stands for principal, interest, taxes and insurance. The principal and interest make up the cost of the home loan, while the taxes and insurance are separate costs which are commonly rolled into the monthly mortgage payment. The tax and insurance portion is collected by your lender and held in an escrow account, and your lender then makes those payments on your behalf.
If you have a government-backed loan, it is mandatory that your taxes and insurance are paid as part of your monthly mortgage payment, says Dre Torres, loan officer with Cornerstone First Mortgage and founder of the Mortgage Coach.
While some conventional lenders may offer the option to make those payments separately, you should still look at the full PITI amount rather than just loan payment. That’s generally the number mortgage lenders will consider when they pre-approve a borrower, explains Doug Perry, strategic financing advisor at Real Estate Bees, a real estate platform.
“The property taxes and homeowners insurance are critical parts of the investment in the home being sound and the loan being repaid,” Perry says.
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The Impact of Property Taxes and Home Insurance on Your Payment
Though the bulk of the monthly mortgage payment for most borrowers will go toward the principal and interest, taxes and insurance are becoming an bigger part of homeowners’ monthly expenses.
“In some states, when buyers first see that insurance premium, they don’t expect it to be so high,” says Torres. “In other places, it could be $10,000 a year in property taxes alone. That’s a big deal.”
That’s why it’s so important to know your numbers early on in the homebuying process, ideally by working with a lender. “If you do research online, those numbers may be way off,” says Torres. “A loan officer can put some numbers together to see if you’re comfortable with the mortgage payment, the taxes and property insurance.”
Taxes
Property taxes can vary widely depending on where you buy a home. The national average property tax rate is 0.899% of assessed home value. So on a home assessed at $500,000, the yearly taxes would be $4,495. However, for a home in Illinois (which has an average 2.11% property tax rate, one of the highest in the nation), the annual property taxes on that same home might be well over $10,000.
Even neighboring counties can have vastly different average property taxes. This means expanding your home search just a few miles could mean a lower tax bill.
Insurance
Homeowners insurance wasn’t always a big expense, but the frequency of natural disasters and the requirement for some homes to carry hazard insurance has made it a major part of some household budgets, says Perry.
“Some policies have seen double-digit annual increases in premiums,” Perry says, which can be devastating to households on an already tight budget.
Even worse, homeowners in some cases have been subject to non-renewal or cancellation by their insurer, and then struggled to find replacement coverage at the same rate.
How to Find Lower Property Taxes
Property taxes are not an expense you can control beyond the initial choice of where to live. But one thing to keep in mind is that some states may offer tax breaks depending on your circumstances.
“Retired people over 65 or veterans in certain states may be exempt from paying property taxes,” says Torres.
Other states might provide relief for people who are collecting Social Security. Depending on your stage of life, these are factors to consider, especially if you’re thinking of buying in a different state.
How to Lower Insurance Costs
Unlike property taxes, you may have a bit more control over your home insurance premium since you can shop around for competitive quotes. The condition of the home you buy can also impact your rates. “If the home has had a new roof within 10 years or if it’s a new construction, that is always going to give you the lowest premiums,” says Torres.
Choosing a home that hasn’t had any recent insurance claims can help, as well.
Another strategy to lower your insurance premium is to go with a higher deductible, says Perry. Check with the lender on their guidelines for the maximum deductible since most have set limits.
“Also, make sure you account for the higher deductible in the household budget,” Perry says. “In exchange for the lower premium, you are taking on some risk and in the event of a loss, you need to be able to cover the amount of the deductible.”
Finally, home insurance carriers will also consider your credit history by looking at a credit-based insurance score when determining your rates. So keeping your credit score as high as possible might help you pay less.
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Be Prepared for Increases in Taxes and Insurance
One attractive feature of a fixed mortgage is that principal and interest remains the same over the life of the loan. However, as most homeowners come to realize, the monthly payment will still go up as property taxes and insurance costs increase.
“You are never going to know what’s going to happen to your taxes and insurance,” says Torres.
But what you can do is, when reviewing your home affordability numbers, try to build in some financial cushion so you’ll be able to handle any inevitable tax and insurance increases that could cause your mortgage payment to balloon.
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Two Numbers You Might Be Overlooking When Calculating Your Mortgage Budget originally appeared on usnews.com
