Jumbo Loans: Everything You Need to Know
Choosing the kind of mortgage that is most suited to your situation is one of the most essential steps in the process of looking for a new house to buy. Even though the term “jumbo loan” can make you think of wealthy individuals, it could end up being your best option for financing even a more affordable home in certain high-demand or high-priced housing regions.
Make sure you have a solid understanding of what a jumbo loan is before you go house hunting in an expensive neighborhood or for a luxury home. This will help you determine whether or not you should apply for one.
Consider the following information before deciding whether or not to apply for a jumbo loan.
What Is a Jumbo Loan?
A mortgage loan that exceeds the restrictions stipulated by the Federal Housing Finance Agency is referred to as a “jumbo loan” or “jumbo mortgage” (FHFA). Since jumbo loans do not adhere to these restrictions, they are referred to as non-conforming loans.
A jumbo loan, as its name suggests, has a higher loan amount. Besides principal residences and rental assets, second houses and vacation properties also qualify for jumbo mortgages.
A jumbo loan’s maximum amount is set differently by each mortgage company and each city. The criteria for eligibility may also change. You may need to do more research to locate a mortgage lender if you require a jumbo loan, as the jumbo loan market is fewer than the conforming loan market. Jumbo loan interest rates are not the same as conforming loan interest rates.
Aside from these key differences, jumbo loans are very similar to conventional mortgages. Payment periods and other specifics are often the same. Fixed and adjustable rate jumbo mortgages are available to borrowers.
According to the guidelines established by the Federal Housing Finance Agency, the maximum amount that can be borrowed with a conforming loan is $647,200 in the majority of counties (FHFA). A jumbo loan is required in order to buy a home if the price is higher than the local conforming lending limit.
How Do Jumbo Loans Work?
Jumbo loans are easier to grasp once the function of “conforming loans” is recognized; these loans have a lending limit that jumbo loans surpass. The Federal Housing Finance Agency (FHFA), which is responsible for the regulation of Fannie Mae and Freddie Mac, was established during the Great Depression with the goal of ensuring that mortgage lenders have adequate cash on hand to lend to individuals in the United States who are interested in purchasing a home.
To this goal, the Federal Housing Finance Agency (FHFA) grants Fannie Mae and Freddie Mac permission to buy loans from financial institutions such as banks, credit unions, and other lenders. However, this permission is contingent on the loans in question satisfying certain criteria designed to safeguard the GSEs against financial loss in the event that borrowers are unable to repay the loans. One of these requirements is that the total loan amount does not exceed the annual maximum for a conforming loan in each county that the Federal Housing Finance Agency (FHFA) establishes.
By pooling together conforming loans, Fannie Mae and Freddie Mac create mortgage-backed securities (MBS), which may be traded on stock exchanges and bought and sold by investors. To continue expanding their mortgage-backed securities portfolios, the GSEs reinvest the revenues from MBS sales. Lenders offer more mortgages with the proceeds from loan sales to Fannie Mae and Freddie Mac.
When assessing applications for jumbo loans, financial institutions are often extra cautious in their efforts to check applicants’ capacity to repay the loan because the potential to sell a mortgage to Fannie Mae or Freddie Mac serves as a form of safety net or guarantee for the lender.
Jumbo Loans vs. Conforming Loans: What’s the Difference?
With a jumbo loan, you can borrow more money than with a conforming loan, however, the interest you pay will be greater.
- Jumbo loan limits – A jumbo loan is required if the amount you wish to borrow is over the standard lending limit in your location. According to Fannie Mae and Freddie Mac, the conforming loan limit for most of the United States in 2022 is $647,200. However, the maximum loan amounts are larger in high-cost regions.
The 2022 loan ceiling is $970,800 for much of California, the New York metro area, and the Washington, D.C. metro area, for instance. This year, the same increased loan limit applies to borrowers in Alaska and Hawaii. Loan amounts that are considered “jumbo” are defined differently in each state.
- Rates for jumbo loans – Thankfully, high-interest rates on jumbo loans are not the norm. There is a chance that the rates will be lower than those for conventional loans, but in practice, they are typically higher.
Typically, a jumbo loan’s interest rate will be 0.25% to 1% more than that of a conforming loan. The interest rate spread between jumbo and conforming loans, which had widened throughout the pandemic, has narrowed to a manageable level.
There will always be a large gap in interest rates amongst lenders, so borrowers would do well to shop around. Keep in mind that the interest rate you pay on a jumbo loan will depend on a variety of variables, including the current market rate, the amount of your down payment, and your credit history.
Jumbo Loans: Pros and Cons
Pros
- Expands the limits of what’s possible with a regular mortgage loan.
- Loan interest rates that are competitive
- Chance to upgrade to a larger house
Cons
- You’ll need a better credit score to apply.
- A higher annual salary is required.
- The applicant’s savings must be sufficient to cover the anticipated monthly payments for six to twelve months.
How to Qualify for Jumbo Loans
Due to the fact that Fannie Mae and Freddie Mac do not buy jumbo loans, they are more difficult to secure. For a conforming loan, borrowers need to meet (and even exceed) the industry norms. Furthermore, each lender has its own requirements for qualification.
You must meet the following conditions to qualify for a jumbo loan:
- Outstanding credit history – According to Rocket Mortgage, a mortgage lender based in Detroit, a credit score of 700 or above is required to obtain a jumbo loan of up to $1 million for the purchase of a single-family or multifamily residence. However, you will need to improve your performance if you want to borrow more money. To qualify for a loan of $1,000,000 – $1.5,000,000, your credit score should be at least 720, and for $1.5,000,000 – $2,000,000, it should be at least 740.
- Debt-to-income ratio – The Consumer Financial Protection Bureau recommends keeping your DTI at or below 36%, while some lenders may go as high as 43%.
- Cash reserves – According to JPMorgan Chase & Co., you’ll need to prove that you have enough cash on hand to afford at least six to twelve months of mortgage payments in addition to closing expenses.
- Down payment – The required down payment for a jumbo loan is often substantially more than that of a conforming loan.
When to Consider Jumbo Loans?
Multiple considerations must be evaluated before deciding whether or not a jumbo loan is the best option for you. Loans of this sort increase people’s access to property ownership, which is especially helpful in regions of the country where the cost of living is higher than average. Checking the conforming loan limitations in your area is a good first step in deciding if a jumbo loan is right for you. A jumbo loan could be a good option if the residences you intend to acquire are too costly to qualify for a conventional loan.
But a jumbo loan isn’t meant for people who want to live on the edge of their means while making a purchase. They are aimed at consumers that have a high disposable income and plenty of savings.
Final Thoughts
Even in the most expensive real estate areas, homeownership is feasible thanks to the availability of jumbo loans. You are going to require a jumbo loan if you intend to acquire a property in an area with high housing costs. The great news is that gaining eligibility for these loans and accessing them online is becoming less difficult.
