Should You Refinance? See if You Can Hit the Trifecta.

On July 1, the Federal Housing Finance Agency quietly announced a small change that could free millions of homeowners from the oppressive bounds of a high monthly mortgage payment.

The agency said loans that are owned or guaranteed by Fannie Mae and Freddie Mac would be eligible to be refinanced if the home's loan-to-value ratio is as high as 125 percent. The current maximum is 105 percent under the Making Home Affordable plan.

That means if you own a home now worth $200,000 but your mortgage amount is $250,000, you would qualify to refinance. Before the government put Fannie Mae and Freddie Mac into conservatorship, you would have had to have at least 20 percent equity (a loan-to-value ratio no higher than 80 percent) to qualify for a refinance.

But with home values continuing to drop and the number of delinquent mortgages and foreclosures continuing to rise, it became clear that the 105 percent loan-to-value refinance ratio wasn't helping enough homeowners lower their monthly mortgage payments.

"The higher [loan-to-value] refinancing will allow more homeowners to strengthen their finances by taking advantage of lower mortgage rates," FHFA Director James Lockhart said in a statement.

Unfortunately, the recent rise in mortgage interest rates means fewer homeowners will find that refinancing makes sense.

The federal government is letting homeowners know that if they choose a loan term shorter than 30 years, they will not only pay off their home loan sooner, but they will be able to take advantage of even lower interest rates.

In its statement, FHFA says there will be an incentive of 0.125 percentage points on interest rates for opting for a 25- or 20-year term rather than 30 years. Lockhart said the incentive combined with a shorter loan term means that homeowners will pay less interest and will get "above water" on their mortgages more quickly.

When deciding whether to refinance your mortgage, it's important to think about hitting the refi trifecta:

-- Can you shorten your loan term? The biggest benefit to refinancing comes when you are able to cut years off of your loan. Choosing a 15-year loan over a 30-year loan could save tens of thousands of dollars over the life of the loan. If you can't shorten your loan term (even by five years), at least try to set up an amortization schedule that won't add years. So if you have 25 years left on your loan, try to refinance to a 25-year term rather than a 30-year term.

While shortening the length of your loan might be a good long-term decision, the monthly payment usually goes up. Back in the go-go real estate years, some people opted for 40-year loans so they could a bigger house with lower monthly payments. It was in those boom years that home buyers and owners should have been looking to shorten their loans.

-- Can you cut your monthly payment? The best kind of refinance will allow you to lower your monthly payments and reduce the number of years on your loan. That said, the refinance may still be worth doing even if it only lowers your monthly payments, because it would reduce the stress on your monthly budget.