Why Does My Mortgage Go Up Every Year?

While the principal and interest portion of a mortgage payment may seem fixed, various factors can lead to an increase in the total amount paid each year. A typical monthly mortgage payment often includes components beyond principal and interest, such as property taxes and homeowner’s insurance. Understanding how these additional elements can change is key to comprehending why your overall mortgage payment might rise.

Understanding Adjustable Interest Rates

Annual changes in mortgage payments can stem from an Adjustable-Rate Mortgage (ARM). Unlike a fixed-rate mortgage, an ARM’s interest rate fluctuates after an initial fixed period, typically three to ten years, then adjusts periodically. The adjustment mechanism is tied to a financial index, such as the Secured Overnight Financing Rate (SOFR) or the Constant Maturity Treasury (CMT) rate, plus a fixed margin. When the index rate rises, the ARM’s interest rate increases, leading to a higher monthly payment. A decrease in the index rate could result in a lower payment.

ARMs include interest rate caps that limit how much the rate can change at each adjustment period and over the lifetime of the loan. For instance, a common structure might have a 2% periodic cap, meaning the rate cannot increase by more than two percentage points in a single adjustment. A lifetime cap, perhaps 5% or 6% above the initial rate, sets an absolute ceiling on how high the interest rate can climb. Homeowners with fixed-rate mortgages will not experience payment increases due to interest rate adjustments.

Changes in Property Taxes

Changes to property taxes, levied by local government authorities, are a common reason for mortgage payment increases. These taxes are typically collected by the mortgage lender as part of the monthly payment and held in an escrow account. Property tax amounts are determined by the property’s assessed value and the local tax rate.

Increases occur when a home’s assessed value rises, due to general property value increases or home improvements. Local governments periodically reassess property values to reflect current market conditions. Local tax rates can also be adjusted by municipal or county governments.

When either the assessed value or the tax rate increases, the amount due for property taxes goes up. Since the lender pays these taxes from the homeowner’s escrow account, the required monthly contribution to that account must also increase. This directly translates to a higher overall monthly mortgage payment, even if the principal and interest portion remains unchanged.

Fluctuations in Homeowner’s Insurance Premiums

Homeowner’s insurance premiums are another variable component that can lead to annual mortgage payment increases. Lenders typically require homeowners to maintain adequate insurance coverage. Like property taxes, these premiums are often collected by the lender through the monthly mortgage payment and held in an escrow account.

Several factors can cause premiums to rise. Inflation affects rebuilding costs, increasing potential payouts. Areas with increased frequency or severity of natural disasters, such as hurricanes, wildfires, or floods, often see higher premiums as insurers adjust for risk. An individual homeowner’s claim history can also influence their premium.

Insurance companies generally review and adjust policy premiums annually. When the annual premium increases, the mortgage lender collects a larger sum each month to cover this expense. This increased escrow contribution directly results in a higher overall monthly mortgage payment.

Impact of Escrow Account Adjustments

Increases in property taxes and homeowner’s insurance premiums affect the monthly mortgage payment primarily through the escrow account. This account, managed by the mortgage lender, collects funds from the homeowner to pay these obligations on their behalf, ensuring they are met consistently.

Lenders conduct an annual escrow analysis, comparing actual costs of property taxes and homeowner’s insurance against collected amounts. If expenses were higher than contributions, a shortage or deficit occurs. To correct this shortage and fund projected higher costs, the lender adjusts the monthly mortgage payment. This adjustment includes increased amounts for taxes and insurance, plus an amount to recover any previous deficit, often spread over 12 months. Homeowners typically receive an annual escrow analysis statement detailing these changes and the new payment amount.