What is a Jumbo loan?
If you’ve ever purchased a home, you know that there are a variety of mortgage loans available to buyers. There are FHA, VA, construction, and subprime loans, fixed–rate, adjustable-rate, and interest only loans. There’s also one called a jumbo loan, which clearly implies it’s going to be huge. Wouldn’t you agree?
If you’re thinking about a jumbo loan, there are a few things you should know. After all, you’re investing in your dream home, and it’s important to be well educated on the type of debt you’re taking on to help fund it.
Conforming vs. non-conforming loans
A conforming loan is one whose loan amount falls within the servicing limits for Fannie Mae and Freddie Mac. In other words, it’s the maximum loan amount that can be purchased from lenders by Fannie Mae and Freddie Mac, two government-sponsored agencies, and sold to investors for the purpose of providing liquidity in the mortgage markets. This frees up the cash necessary for lenders to continue writing real estate loans for other borrowers.
Currently, the conforming loan amount is $424,100 for a single-family home in all States, except for Hawaii and Alaska and a few federally designated high-cost markets.
Regardless of its high credit quality, if the mortgage amount exceeds the conforming loan limit, it is considered a jumbo loan or a non-conforming loan. Jumbo loans are not eligible for purchase by Fannie Mae or Freddie Mac and the lender bears all the risk.
Jumbo loan requirements
Because jumbo loans have higher purchase limits, they’re typically used to purchase luxury homes, vacation homes, or even investment properties. While traditional mortgage loans have strict lending standards, jumbo loans have even more demanding requirements.
Jumbo loans pose an additional amount of risk for lenders, mainly due to the size of the loan. That’s one reason that the down payment requirement is typically 20%. Generally, if a jumbo mortgage loan defaults, a home of that caliber is unlikely to sell quickly and for full price. The lender mitigates some of the risk by requiring a certain amount of equity in the home. Interest rates for jumbo loans are typically a little higher than conforming loan rates as well. Most often, a 1/4 to 1/2 percent increase would be a fair expectation.
Borrowers will also be required to demonstrate financial strength, too. Their debt-to-income ratio should be roughly 45 percent, and they’ll need to plan on a required reserve amount that could potentially be as high as 20 percent of the value of the loan.
If you are able to meet the requirements, a jumbo loan might be the right fit for your financial situation. Of course, there are other options. Be sure to speak with your lender to help you decide which product meets your mortgage needs best.