For would-be home buyers, 2000 is shaping up to be a tough year in one respect. In late January, the average rate on a 30-year fixed-rate mortgage, hit 8.36%, a four-year high. Just last April, you would have paid less than 7% for that same loan.

With the economy strong, unemployment low and the Federal Reserve expected to raise short-term rates throughout the first half of the year, mortgage experts don't foresee relief any time soon.

Yet even in a rising-rate environment, home borrowers have plenty of options, especially with competition among lenders so fierce. Here are six ways to keep your mortgage payments down.

Consider adjustables. Today almost a third of borrowers are opting for an adjustable-rate mortgage (ARM) but not necessarily a traditional one-year ARM. Even though one-year ARMs recently averaged 6.66%, that rate is still not low enough to compensate for the risk of a big rate hike next year. A safer bet is a hybrid ARM, whose rate is fixed for three to 10 years and then adjusts annually. The average rate on a five-year hybrid ARM was recently 7.67%, according to mortgage trackers HSH Associates (800-873-2873; www.hsh.com ); a seven-year was 7.89%-almost half a point lower than what you'd pay on a 30-year loan.

The trade-off with these mortgages is that your payment could rise sharply once the initial rate expires. For that reason, try to match the fixed term to the length of time you plan to stay in your home. (If you can't, consider refinancing later.) Annual rate hikes are usually capped, but that ceiling can range from two to five percentage points. Look for the lowest you can find. Cut your rate later. In just the past nine months, several lenders have rolled out a new type of mortgage with a rate that drops when market rates fall but stays put when rates rise. "These products are really no-or low-cost refi's with the same lender," says Keith Gumbinger, vice president of HSH Associates. The selling point is that any fees you pay to cut your rate may be lower than what it would cost you to refinance. Not all of these trendy step-down mortgages are equally attractive, however; some charge a higher rate from the start. The ARC Loan from National City Mortgage (888-272-5626; www.arcloan.com) looks like the best of the breed. You can lower your rate for no fee every four months.

Spend more up front. Even at today's higher rates, fixed-rate loans are still best for many borrowers, especially if you expect to stay in your home indefinitely. That's because you can cut your rate by paying points (one point equals 1% of the loan amount). Typically, you'll trim your interest rate by one-eighth to on-quarter of a percent per point. For example, if you add two points to a $100,000 30-year fixed -rate loan at 8.25%, you could get a 7.75% rate. As long as you remain in the house for five years, you'll recoup the extra $2,000. After that, your savings kick in. Also, if you can scrape up a full 20% down payment, you'll avoid paying for private mortgage insurance, which can add $30 to $100 a month to your payments.

Close fast. Some lenders will trim your rate by one-eighth of a percent if you agree to close within 30 days rather than 45 or 60. Just make sure you'll have enough time to conduct all the necessary inspections, including testing the water and soil for contaminants.

Lock in the rate. In a hot housing market, getting pre-approved for a mortgage makes you a more attractive buyer. In a rising-rate market, pre-approval has another benefit: You lock in your interest rate, usually at no extra cost. If you don't lock in a rate in this market, "you can get burned," says Stephen Brandt, senior vice president at Countrywide Mortgage.

You can also pay about $250 for a rate lock with a float-down option-which means your rate will drop if market rates go down before you close. But with rates not expected to fall much this year, advises Sarah Campbell, senior vice president at Bankrate.com, it's probably not worth paying for a float-down option.

Agree to stay put. Some lenders will cut your interest rate by up to a quarter of a percent if you agree not to refinance in the first five years-or to pay a penalty of about 1% of your loan if you do. This is a common feature on ARM’s, although it's not available in all states.

Whether you should accept a prepayment penalty depends on the size of the penalty and the rate you're paying (or the rate you could pay if the loan is adjustable). If you get a $100,000 30-year fixed-rate mortgage with a prepayment penalty at 8.25% today and rates drop to 7% two years from now, you'll need 11 months of lower payments to make up the $1,000 penalty.

- Judy Feldman
 March 2000, Money

Apply Now

Return to Loan Options