You have a lot of mortgage options to sift through when you’re buying a home, and making a decision can feel overwhelming. Here is some information to help you understand different kinds of home loans and find the best mortgage for you.

Fixed-rate mortgages
As the name suggests, the interest rate on a fixed-rate mortgage stays the same throughout the term of the loan. Fixed-rate mortgages appeal to people who:

• Will likely stay in their home for more than three or four years.
• Want to know that their payments will stay the same over the life of the loan.

Most fixed-rate mortgages are for terms of 30 or 15 years; the interest rate on the shorter-term loan is less, reducing the overall cost of the loan for people who can afford the higher monthly payments.

Adjustable-rate mortgages
Monthly payments on an adjustable-rate mortgage can adjust up or down depending on market conditions, usually every one, three or five years. ARMs may appeal to:

• People who know they will be in their homes for less than three years.
• Buyers who want significant savings on interest early in the loan. They may plan to refinance or sell before the rate adjusts and are willing to take the risk that they will be able to do so.
• Buyers who believe interest rates will go down.

Hybrid mortgages
Hybrid mortgages are a blend of the features of fixed and adjustable rate mortgages. A Hybrid ARM has an interest rate that does not change for several years (the fixed term), after which it adjusts every year for the life of the loan. The most common hybrid mortgages are 3/1 and 5/1 mortgages which have a fixed rate of three years and five years, respectively, and then adjust annually after the fixed term expires.

Hybrid mortgages may work if:

• You plan to sell or refinance before the fixed term ends.
• You want to save on interest during the early years of the loan and will be able to afford potentially higher payments when the rate adjusts.

Option ARMs
These adjustable-rate mortgages allow you to select from up to four payment options each month. The minimum payment is low at first, but can rise quite a bit after an introductory period. You’ll build equity more quickly if you choose higher payments. If you choose the minimum payment too often, you won’t be building equity in your home and could even increase your loan’s balance.

Option ARMs may work for you if:

• You want flexibility because your income fluctuates. (For example, if you work on commission and may be able to make very large payments one month, but much smaller payments the next.)
• You are financially disciplined and won’t be tempted to pay only the minimum each month. Paying just the minimum can lead to a dangerous scenario where you owe more than the loan’s original amount.

Interest-only and balloon mortgages
Interest-only and balloon mortgages allow you to make lower payments for a number of years. But you won’t build equity on an interest-only loan, and eventually your payments will increase after the interest-only period expires (usually five to ten years). A balloon mortgage offers low regular payments for a number of years, but then requires you to pay off the principal all at once.

Interest-only or balloon mortgages may work if:

• You expect a financial windfall down the road that will allow you to pay off or pay down your mortgage.
• You have a temporary financial crunch.
• You plan to sell quickly.

Keep in mind that many mortgage lenders have cut back dramatically on more exotic loans, and some won’t offer them at all. Carefully consider your long-term financial situation and tolerance for risk as you mull your choices.

Comparing mortgage loans is one of the most important things you can do when you’re buying a home. The decisions you make will determine the size of your monthly payments, how much you pay upfront, and how much interest you’ll pay over the life of the loan.

You might find it simpler to compare loans if you ask each lender a series of questions, including:

• What is the loan’s interest rate?
• Will I be charged points?
• What are the closing costs and all other fees?
• What is the annual percentage rate, or APR – the rate you’ll pay per year for all the costs associated with the loan?
• Is there a pre-payment penalty?
• How is the loan amortized, meaning how quickly is the principal paid off?

Find out the answers to these questions no matter what type of loan you’re considering. Each can affect the overall cost of your loan.

If you are considering an adjustable-rate mortgage, or ARM, you can compare loans by asking:

• When does the rate adjust?
• How often does the rate adjust?
• Is there a cap limiting the amount by which the rate can adjust? What would my monthly payments be if my interest rate hit that cap?
• What is the index and margin that will determine my rate? How has the index changed over time?

ARMs are inherently more risky than fixed-rate mortgages because you’re gambling on whether interest rates will go up or go down before your rate adjusts. Understanding the best- and worst-case scenarios can help you weigh the pros and cons as you compare loans.

But there’s one other big question to consider before you get an ARM:

• How does the discount introductory rate compare with rates for 30-year fixed-rate loans?

If there’s not much difference when you compare the two, the fixed-rate loan might be a safer bet. You won’t save much in the short-term, and could save a lot over the long term. Plus, you reduce your risk if interest rates shoot up and you can’t refinance before the rate adjustment.

Finally, to truly compare loans, you have to ask yourself some questions:

• How long do I expect to stay in my home?
• Are my job and income secure over the long term?
• Will I be able to afford higher payments in the future?
• How comfortable am I with risk?

In the end, the best loan is the one that works for your needs.

The prospect of a lower interest rate may have you thinking about refinancing. Or you may be looking to refinance to replace an adjustable-rate mortgage. Whatever your reason, refinancing your loan has the potential to save you money. But how do you know whether you can really save by refinancing your current loan, and whether the savings are worth the cost?

Here’s a step-by-step guide to evaluating your current loan:

Step 1: Pull out your loan documents and look at the terms.
What interest rate are you paying? Is the rate fixed or adjustable? If you have an ARM, when is your rate due to reset? To figure out how much your rate (and monthly payments) could increase, look for your loan’s index and margin as noted on your loan documents. Read more about how ARM interest rates are calculated in our article ARM indexes. And finally, is there a prepayment penalty that could cost you big money if you refinance?

Step 2: Compare your loan’s interest rate with current interest rates.
If you took out a fixed-rate mortgage several years ago and interest rates have since dropped, refinancing may lower your payments considerably. A $150,000 mortgage with a 30-year term and a rate of 8 percent, for example, carries a monthly payment of $1,100. The same mortgage at 6 percent will have a payment of less than $900 a month. Remember, the interest rate you qualify for is based on several factors, including your credit score and your loan-to-value ratio. So don’t automatically assume that you’ll qualify for the lowest rate out there.

Step 3: Think about how long you expect to stay in your home.
Before you make a move to refinance, it’s a good idea to think realistically about your long-term plans. If you expect to move in a year or two, you may not realize the savings you could potentially get from refinancing. In general, the longer you plan to stay in your home, the more sense it may make to refinance.

Step 4: Figure out your break-even point on the refinance.
If your closing costs will be $3,500 and you’ll save $100 a month on payments, it will take you almost three years to recoup those costs. If you plan to move in a year or two, refinancing may cost you more than it saves you. If you plan to stay longer, though, the savings through lower monthly payments can really add up. For more information on calculating your break-even point read the article When does mortgage refinancing pay  or use the LendingTree.com Mortgage Refinancing calculator.

Other factors can come into play when you evaluate your current loan and compare it with refinancing options. For example, you can save on interest over the life of the loan by refinancing into a 15-year fixed loan rather than a 30-year loan. Your monthly payments will be higher than on a 30-year term, but you’ll pay less interest over all by choosing a shorter term.

You can easily evaluate your current loan and compare it with possible refinancing options using the no-obligation LendingTree Mortgage Checkup.

There’s nothing like being armed with knowledge to save yourself some money, so it stands to reason that it pays to educate yourself before financing any major purchase. Here are three things you should know before you apply for a loan:

1. Your credit rating, also known as a FICO® score.
As a rating of your credit worthiness, your FICO® score is a basic building block in your quest for a loan. It doesn’t matter whether you’re trying to buy a house, a car or a refrigerator – before they give you money, lenders want to feel comfortable that you’re going to pay it back. Your credit rating tells them your record of doing just that. If your credit rating is bruised, you might consider holding off on the purchase until you can improve your rating. That’s because higher FICO® scores can translate into lower interest rates and lower overall borrowing costs.

2. The cost of borrowing.
This includes knowing and understanding interest rates, fees and other charges that make the amount of money you’re paying back higher than the amount you borrowed. Knowing the prevailing interest rate can help you choose among lenders. So can comparing the annual percentage rate (APR), which expresses a loan’s interest costs and other fees as a yearly percentage. The APR gives you a look at the true cost of borrowing. Also make sure you also understand whether you are being offered a fixed-rate or an adjustable-rate loan and the long-term implications of both.

3. How much you can afford to borrow.
Many online loan calculators, such as the calculators in the LendingTree Smart Borrower Center, are available to help you figure out your monthly payments based on how much you borrow, the likely interest rate and the length of the loan. Check, too, how the total amount you will owe varies under different formulas. You don’t want to be stuck paying more than you have to. Carefully look at your monthly expenses to see how much you can pay. Don’t forget to figure in things like rent increases or unexpected expenses that could hit down the line. 

A mortgage is a major expense. But it can be even more costly when your credit score is less than perfect as you may end up being charged a higher interest rate for a subprime mortgage.

How do you avoid having to pay a higher rate? One way is to pay down your debt, and establish a good track record of paying your bills on time. But it can take up to a year to show results.

There is another way, however, and that’s to consider an FHA (Federal Housing Administration) mortgage. These loans use different criteria than other mortgages, and that may allow lenders to offer you terms only slightly higher than market rates — in some cases, as little as .125 percent higher.

FHA mortgages
It’s important to understand what an FHA mortgage is. Contrary to some people’s belief, the Federal Housing Administration is not a lender. It is a federal government agency that guarantees loans by private lenders, making mortgages available to people who may have a difficult time qualifying , often because of a lack of credit history. This includes recent college graduates, newlyweds, as well as people who have had credit problems including bankruptcies and foreclosures. Since an FHA mortgage is government-insured, lenders granting these mortgages assume less risk than they do with other low credit score loans and therefore can extend credit at a more reasonable interest rate.

How to qualify
The qualification criteria for an FHA mortgage are different than they are for a conventional loan. While your credit score is usually the most important factor lenders consider when approving you for a conventional loan, with an FHA loan it’s not the central consideration. Rather, the FHA looks at your overall credit history, and is often more flexible in considering mitigating factors.

That doesn’t mean you don’t have to get your credit under control. The FHA requires a one-year period of acceptable credit, during which you have made all your payments promptly. It may review your rental or mortgage payment history during that time, any new credit or credit inquiries, and whether you have paid off any judgments against you. And it considers your debt-to-income ratio to ensure you’ll be able to repay the loan.

Advantages

• The FHA may not hold an unpaid collection against you if there is a valid reason for not paying it.
• You can qualify three years after a foreclosure, as opposed to the usual four years with a conventional loan.
• Your down payment can be as little as 3 percent of the loan amount.
• The down payment can be a gift from a family member, government agency or non-profit organization.
• Your housing expenses (PITI) and other debt payments can total 41 percent of your income, compared with the usual 33-36 percent for a conventional loan.

Disadvantages

• There is a limit to the amount you can borrow that varies depending upon your area.
• You may have to take out a second loan if, due to regional limitations on the amount your can borrow, an FHA loan does not provide you with sufficient financing. (On a $100,000 mortgage, the 1.5 percent upfront mortgage insurance payment would be $1,500 which, wrapped into a fixed, 30-year mortgage at 8 percent, would come to an additional $11.01 per month. The 0.5 percent annual premium would be $500 per year or $41.67 per month.)

While an FHA mortgage may be the answer for you, not all FHA mortgages are the same. So look carefully at the rate and other features, and compare FHA mortgages from different lenders before you sign.

You’ve found a home you’d love to own, and you’re ready to buy. But you don’t have a 20 percent down payment. Don’t worry; there are several low-down-payment alternatives.

Private mortgage insurance
It’s possible to get a mortgage with a down payment of as little as 3 percent by taking out private mortgage insurance (PMI). This insurance protects the lender in case you default on your mortgage payments by ensuring that the outstanding balance will be paid off.

The cost of PMI varies but, in general, it’s about one-half of one percent of the mortgage amount per year, or $500 for a $100,000 loan. The good news is that once you’ve paid down your mortgage to the point where you achieve 20 percent equity in your home, most lenders will allow you to cancel the insurance. You may also be able to drop it if an updated appraisal indicates your equity has increased sufficiently due to an increase in the value of your home.

PMI can sometimes be financed through your mortgage loan (often called a self-insured mortgage). You will likely have to pay a higher interest rate, but the payments are usually tax-deductible as mortgage interest.

FHA loans
A second option is to apply for an FHA mortgage. These loans, designed for those with less-than-perfect credit, are insured by the Federal Housing Administration and also allow a down payment as low as 3 percent.

The down payment can be a gift from a family member, government agency or non-profit organization. However, there is a limit to the amount you can borrow, which varies depending on your location. You will also be required to take out FHA mortgage insurance. In most cases, this insurance costs 1.5 percent of the loan amount on closing, plus 0.5 percent per year — the amount can be rolled into your mortgage.

On a $100,000 mortgage, the 1.5 percent upfront FHA mortgage insurance payment would be $1,500 which, wrapped into a fixed, 30-year mortgage at 8 percent, would come to an additional $11.01 per month. The 0.5 percent annual premium would be $500 per year or $41.67 per month.

Government-insured loans are also available for those with military service under the Veterans Administration (VA) loans program, and for rural residents under the Rural Development Housing and Community Facilities program.

Piggyback loans
Also called a second trust loan or second mortgage, a piggyback loan is a second loan that closes at the same time as your first mortgage. The idea is to combine this loan with your down payment in order to reach the 20 percent needed for a conventional mortgage.

The most common piggyback loan is an 80/10/10: your mortgage equals 80 percent of the purchase price, and your second trust loan and down payment each equal 10 percent. There are also 80/15/5 loans, which require you to put down only 5 percent.

With this arrangement, you’ll have two loans to pay each month. And the interest rate on the second trust loan will likely be higher than that of your first mortgage. In addition, paying the closing costs on another loan will add to your upfront expenses. But your total payments may be less than they would be if you were paying for PMI. Plus, the interest on a piggyback loan may be tax-deductible, though you should consult a tax advisor about your situation.

APR: Annual Percentage Rate. This expresses the annual cost of borrowing as a percentage of the loan amount. It factors in not only the interest rate, but also the fees associated with the loan. Because federal law requires lenders to use a similar formula to calculate APR, consumers can use it as a method for comparing the true cost of mortgages.

ARM: Adjustable rate mortgage. The interest rate on an ARM changes periodically over the life of the loan.

CD: Certificate of deposit. Some adjustable rate mortgages are CD-indexed (see next entry), which means their interest rate fluctuates every six months according to the current rate offered on these investments.

CODI: Certificate of Deposit Index. The CODI is the average yield on three-month CDs over the past year, as reported by the Federal Reserve. It is one of several indexes commonly used to set interest rates on adjustable rate mortgages.

COFI: Cost of Funds Index. This is an average of rates paid on checking and savings accounts by a regional sample of U.S. banks. It is one of several indexes commonly used to set interest rates on adjustable rate mortgages.

CRC: Credit reporting company. CRCs collect information about personal credit and prepare reports that help lenders assess the risk of granting a mortgage to a given borrower.

ECOA: Equal Credit Opportunity Act. This federal law ensures that mortgage lenders do not discriminate against potential borrowers based on race, color, religion, national origin, age, sex, marital status or receipt of income from public assistance programs.

FHA: Federal Housing Administration. The FHA is a division of the Department of Housing and Urban Development whose role is to insure residential mortgages and to set underwriting standards for lenders. An FHA loan is one that meets these standards.

FICO: Fair Isaac Corporation. This company pioneered the practice of credit scoring, an important part of the mortgage approval process. Credit scores calculated using the company’s formula are called FICO scores.

GFE: Good Faith Estimate. The government requires lenders to give applicants a Good Faith Estimate of all the costs associated with a mortgage, allowing borrowers to compare various offers. A lender has three days to produce a GFE after you submit an application, and it is a good idea to wait until you receive it before committing to a particular mortgage.

GPM: Graduated payment mortgage. With this type of mortgage, the payments start low and increase for a specified period before leveling off. The low introductory payments do not cover all of the interest due, so a GPM usually results in negative amortization — that is, the principal increases with each payment rather than being reduced.

HELOC: Home equity line of credit. A HELOC is a revolving line of credit that is secured by your property. It is considered secondary to a first mortgage, and therefore typically carries a higher rate.

HUD: Housing and Urban Development. This department of the federal government insures mortgages and sets standards for housing. Borrowers will encounter this acronym when they receive a HUD-1 statement, which itemizes all settlement costs due when a mortgage closes.

LTV: Loan-to-value. A borrower’s LTV, expressed as a percentage, is the ratio of the mortgage amount to the appraised value of the property. A homeowner who has a $80,000 mortgage on a $200,000 property has an LTV of 40 percent.

LIBOR: London Interbank Offered Rate. This figure is based on wholesale money markets in the United Kingdom. It is one of several indexes commonly used to set interest rates on adjustable rate mortgages.

P&I: Principal and interest. If the monthly payment on a mortgage is expressed as P&I, it does not include taxes and insurance (see PITI, below). When comparing mortgages, it is important to take this into account, as other offers may build in these other components.

PITI: Principal, interest, taxes and insurance. PITI mortgage payments include all four of these components (see P&I, above).

PMI: Private mortgage insurance. When obtaining a mortgage with a down payment of less than 20 percent, lenders typically require borrowers to pay PMI to insure against the risk of default. Annual premiums are typically 0.5 percent of the loan amount.

RESPA: Real Estate Settlement Procedures Act. This consumer-protection law requires lenders to disclose (upon request) all of the costs involved in settling a loan and prohibits kickbacks that may increase these costs.

TIL: Truth in Lending. The federal Truth in Lending Act requires lenders to provide a statement that includes the information consumers need to properly compare mortgage offers. For example, the cost of lending must be expressed in dollars and as an annual percentage rate.

VA: Department of Veterans Affairs. This federal government agency guarantees mortgages that assist eligible veterans in buying homes.

Piggyback loans were designed to avoid private mortgage insurance (PMI) premiums, which are usually required with any mortgage exceeding 80 percent of a home’s value.

In the most common scenario, the homeowner puts 10 percent down, gets a mortgage for 80 percent of the home’s value, and then takes out a second loan for the remaining 10 percent. Although this second loan generally carries a rate one or two percentage points higher, the combined payment on the two loans may be less than one larger mortgage plus PMI. There can also be a tax break — because the piggyback loan is a second mortgage, the interest may be tax-deductible.

If you bought a home with a low down payment and a piggyback loan, you may have questions about how to manage your second loan in combination with your first. Here are three options that can help you do so wisely:

1. Consider accelerating your payments.
Piggyback loans can be structured in several ways. One popular choice is a home equity line of credit (HELOC), which carries a variable rate that is typically higher than a first mortgage. A HELOC usually requires only small minimum payments, but paying it down more quickly can save you thousands in interest over the long run. If you can afford higher monthly payments or a lump-sum prepayment once a year, put those extra funds toward your HELOC rather than your first mortgage.

Other piggyback mortgages are balloon loans, which carry low monthly payments, but require a large lump sum to be paid at the end of a specified term, often five, seven or ten years. Whether it is wise to make prepayments on a balloon loan depends on the interest rate and length of the term. If the loan carries a high rate and will come due within a few years, knocking down the principal with extra payments is usually wise. However, if your rate is fairly low and the loan does not come due for ten years, you may be better of investing your extra money instead.

2. Look for opportunities to refinance.
Since a piggyback loan typically carries a higher interest rate than your first mortgage, you may be able to save if you can refinance to a single mortgage. Even if you still need two loans, refinancing the piggyback alone may also be an option. You’ll need to take several factors into account:

• Local market conditions. An upswing in house prices in your neighborhood may have bumped your equity above 20 percent, making it possible to refinance your two loans into one.

• Current mortgage rates. Obviously, the time to refinance is when rates are lower than when you obtained your mortgage. If the interest rate you currently have is lower than today’s rates, it may not make sense to refinance. However, even if rates have not dropped significantly, you might consider refinancing your piggyback loan to obtain better terms. If you have a balloon loan that is about to come due for example, you may want to consider refinancing now.

• How long you plan to be in your home. As with any refinance, closing costs eat into your savings, so the longer you put off moving, the more sense it makes to obtain a new mortgage.

3. Consider paying PMI.
If interest rates were to start trending upward, a piggyback loan with an adjustable rate could become costly. Compare your current arrangement to the cost of refinancing to a single mortgage with less than 20 percent equity. You will have to pay PMI, of course, but market conditions (as well as a new tax break that makes PMI deductible for some borrowers) may make this the less costly option.

People who relocate frequently have special needs when it comes to financing home purchases, especially in today’s real estate and lending climate.

Two major factors for people who relocate frequently to consider are the terms of an adjustable-rate mortgage, and the tradeoff between loan closing costs and interest rates, said Pamela Hamrick, vice president of operations for LendingTree Loans.

Most adjustable-rate mortgages, or ARMs, have an initial fixed rate that adjusts after a set period. In general, the shorter the fixed-rate period is, the lower the initial interest rate. When the rate adjusts after the fixed-rate term expires, the new rate – and therefore monthly payments — can be significantly higher.

The challenge is in matching the fixed-rate term with the length of time you expect to be in the home before relocating and selling, Hamrick said. If the rate adjusts after three years but you stay longer, you’ll be stuck with higher – and potentially unaffordable – payments.

“If you’re really not sure you’re going to move again, that might not be the way to go,” she said.

New considerations
Until recently, homeowners often refinanced to a fixed-rate mortgage before the rate adjusted upward. But Hamrick noted that tighter lending guidelines mean some people who would have qualified for refinancing in the recent past won’t be able to qualify now.

At the same time, the slow housing market is posing challenges for some workers trying to sell their homes when they relocate, Hamrick said. “If you need equity from that other house to buy a new house, it becomes a challenge if you don’t sell it on time,” she said.

Another thing to consider when relocating is whether a working spouse has a job yet at the new location, she said. Lenders consider “trailing spouse” income during the loan qualification process, but it’s just a portion of the previous earnings. Frequent movers who derive a large portion of income from commissions and bonuses may also be challenged in qualifying for a loan, she said.

Weigh costs carefully
People who relocate frequently also need to carefully weigh loans that have no or low closing costs versus those that charge traditional closing costs, Hamrick said.

Loans that don’t charge points at closing – each point represents one percent of the total loan – generally carry a higher interest rate than loans with no or low points. But the latter might make more sense for someone who won’t be in their home long, she said.

Here’s why: Let’s say you saved $2,000 at closing by choosing a $100,000 no-closing-fee mortgage loan. The higher interest rate on this loan means that the monthly payment is $40 more than you would have paid with a $100,000 loan charging two points. That means that in order to make the higher interest rate worth it, you would have to stay in the house long enough to make paying points worth the cost. In this instance, it would take you 50 months (or 4.12 years) to make it worthwhile to choose the loan with the points. ($2,000 (amount paid for points) / $40 (savings per month) = 50 months.)

“After that, it’s really costing you money to have the higher interest rate than to pay the point” at closing, Hamrick said. But people who relocate before hitting that point will save money with the no-points loan.

For help determining whether or not you should pay points on a loan, use the LendingTree Discount points calculator.

Most people choose adjustable-rate mortgages (ARMs) over fixed-rate loans because of their lower initial monthly payments. However, the rate and monthly payment of an ARM is eventually adjusted, or reset. For example, a 5/1 ARM resets after five years, and then annually after that. During periods of falling interest rates, the adjustments can be welcome. When rates are rising, however, you’ll have to brace yourself for higher monthly payments.

In order to help you determine whether you may benefit from refinancing, consider the following:

The rate caps on your mortgage
If you have an ARM that is about to reset, it’s crucial that you understand the caps on your loan. Caps are limits on the amount your interest rate (and, subsequently, your monthly payment) can go up. They are designed to protect you from the shock of extreme rate increases. There are three main types:

• The initial cap limits the amount your rate can go up at the first adjustment period.
• The periodic cap sets the maximum increase for any single adjustment.
• The lifetime cap restricts the overall amount your interest rate can be raised over the entire mortgage term.

As an example, imagine that you have a 3/1 ARM with an initial rate of 4 percent. Your initial and periodic caps are both 2 percent, and the lifetime cap is 6 percent. Now let’s assume your mortgage will reset for the first time in one month, and interest rates have risen since you obtained your loan. If your new fully indexed rate were 6.5 percent, your initial cap would protect you, keeping your actual rate at just 6 percent.

Note, however, that your loan will be adjusted again a year from now, and even if interest rates stay the same, your ARM will go up to 6.5 percent, because an increase of 0.5 percent is still well under the periodic cap of 2 percent. As long as interest rates continue climbing, your mortgage rate will climb with it, by a maximum of 2 percent a year, until the lifetime cap halts the increase at 10 percent. That’s why caps may not provide long-term protection against rate increases.

Current interest rate trends
When rates appear to be rising over a long horizon, it may make sense to refinance your ARM before it resets, especially if you’re planning to stay in your home for several years. By locking in now for three, five or seven-or-more years, you can protect yourself from the possibility of steadily climbing rates.

Here’s an example. Assume you have an ARM with a principal of $200,000 and 25 years left on its term. Your current rate is just 4 percent, but it will reset in one year, and you expect the new rate will be 5.5 percent, rising to 6.5 percent the year after, and an additional 0.5 percent at each of the next two annual adjustments. Here’s how your monthly payments would look:

Now imagine refinancing your mortgage today, a full year before your current one resets. You opt for a 5/1 ARM with an initial rate of 5.75 percent, which will remain fixed for five years. This rate is much higher than your current one, and even more than the new rate you expect in one year. Your new monthly payment would be $1,258, considerably higher than the payments you’ll be making over the next 24 months. However, by the time you get to year three, your choice would be looking pretty good. And in four years, your monthly payment will be almost $200 less than it would have been with your old ARM. Over the first five years of your new mortgage, you will pay about $2,000 less interest.

The cost of refinancing
Of course, even though interest rates have been trending upward since 2005, no one can predict for certain where interest rates will be headed next month, let alone four years from now. If they rise more sharply than in our example, refinancing could save you even more. On the other hand, if rates decline, refinancing may look unwise in hindsight. Remember, too, that refinancing carries upfront costs that eat into your overall savings. In general, the longer you are planning to stay in your home, the more sense it makes to refinance now.

To help you determine what your new monthly payments are likely to be when your ARM resets, use the LendingTree adjustable rate mortgage payment calculator.