WTF is per diem interest?

Photo by Sarah Chai

Per diem interest is the dollar amount you pay in interest on your mortgage per day.

This is how it is calculated.

One way is to take your interest rate, divide it by 365 and multiply it by the principal balance of your mortgage.

An example:

3% interest rate for a $300,000 mortgage is .03/365 x 300,000 or $24.66 per day.

Another way is to calculate the yearly interest on your mortgage and divide that by 365.

For instance:

3% interest rate for a $300,000 mortgage is 300,000 x .03 or $9000 in yearly interest dollars. Now divide the $9000 by 365 to get the per diem interest. 9000 / 365 = $24.66.

Per diem interest is expressed as a dollar amount.

When is it used?

At the closing of your mortgage, it’s used to calculate the amount of interest collected. This amount will cover the interest to the lender from the day of the closing (or funding if a refinance) to the end of that month. If you are closing or funding your new loan on June 15th, you will pay 16 days of interest (including the 15th and the 30th of June).

Essentially your first mortgage payment on your new loan is an interest only payment from the day of closing until the end of that month.

It’s also used when you payoff a mortgage in a lump sum through a refinance, the sale of your home, or your savings.

The reason for this is mortgages are paid in arrears — for the previous month. This is different than rent which is paid in advance. If you close your mortgage on June 15th, your first payment will be due on August 1st. Is this because the lender is nice enough to let you skip a month? Hard no.

You are paying your July mortgage payment on August 1st. Your August mortgage payment on September 1st and so on. The lender cannot charge you interest until the day has passed so they can calculate the interest on your outstanding balance.

For an amortizing mortgage, your payment may stay the same, but the dollars going to principal and interest each month change based on the outstanding mortgage principal balance. Over time, your payment flips from more dollars going to interest to more dollars going to principal. You pay your mortgage down faster at the end of the term.