If you have eyes on a home in a high-value neighborhood, your first concern would be, how are you going to manage to afford it? You probably looked it up and conventional mortgages have a limit, this limit doesn’t cover the asking price for these expensive homes. The good news is that there is a mortgage plan that can help you and these would be Jumbo loans.
Jumbo loans are mortgages that are meant to facilitate the purchase of properties that exceed the limits of conventional mortgage plans. Despite being different plans, Jumbo loans and conventional loans are very similar in their structure. The main difference between conventional and jumbo loans is in terms of requirements and the amounts they are approved for. Because jumbo loans exceed the amounts of conventional mortgages, these loans are also approved for very high amounts and by extension, the requirements of qualification are also higher. Despite there being more requirements for jumbo loans, these qualifiers are not impossible to reach.
What is a Jumbo loan?
The mortgage industry is regulated by the Federal Housing Finance Agency or FHFA, this regulation is not done directly. What the FHFA does is provide guidelines that define loans, these guidelines include the terms of the loans, the interest rates, loan limits or amount limits, etc. The guidelines are meant to define loans that are safe for the consumer and to discourage misleading practices. Working under the FHFA are two GSE or Government-Sponsored Entities, Fannie Mae and Freddie Mac. The two GSEs focus on the secondary market, which is where the GSE purchases closed loans from lenders and financial intuitions.
Freddie Mac and Fannie Mae only purchase those mortgages that fall under the guidelines of the FHFA, since it’s profitable for lenders to sell their closed mortgages, they try to keep in line with the guidelines of the FHFA, in this way the FHFA is responsible for regulating the industry. The loans that follow these guidelines and get purchased by Freddie Mac and Fannie Mae are known as conforming mortgages and loans that do not meet these guidelines are known as non-conforming mortgages. Since conventional loans are the most common types of mortgages purchased by the GSE, by extension we can confirm that conventional loans are conforming mortgages.
Jumbo loans, by contrast, are examples of non-conforming loans, this is because they are approved for higher amounts than conventional loans and do not have their own limits. Any loan exceeding the amount for conventional mortgages are treated, by default, as Jumbo loans.
Minimum and Maximum Loan Amounts
The limits set by the FHFA are updated on an annual basis after reviewing the latest economic conditions, trends, and situations in the real estate market. In most cases, the limits are increased every year, due to the constantly increasing real estate prices. There are also other factors that influence the exact amount set by the FHFA and depend on the kind of property and location. In terms of locations, the limits are usually differentiated by county and also the general real estate prices in an area.
In 2021, the FHFA announced the yearly conventional loan limits to be $548,250 for most parts of the country applicable for single-family homes, while the limit for high-valued areas is $822,375. Any mortgage whose approved amounts exceed these values, for the respective areas, will be considered a jumbo loan mortgage.
Jumbo Loan Requirements
Credit Score: Credit scores are indicators of a borrower’s history with handling credit loans and repayment of those loans. The calculation of a borrower’s credit score is based on, how much of their credit limit they utilize, how often they use the credit, the amount of the credit loan, the number of repayments, the number of late repayments, etc. For this reason, lenders take credit scores as an indicator of their ability to handle mortgage loans. If you want to qualify for a jumbo loan, you will need to have a minimum credit score of 680, if you are a first-time homebuyer. If you already own a home then you will need to have a minimum credit score of 720.
Cash Reserves: Having cash reserves is a requirement that is found in jumbo loans but not conventional loans, this stands to reason since jumbo loans exceed the amounts of conforming mortgages. Jumbo loans carry a higher risk for lenders, they can’t be sold on the secondary market because the GSE will not buy them. Hence, lenders have to make sure that the borrower has the financial ability to take on a jumbo mortgage. To qualify for a jumbo loan you have to show the amount of up to 12 to 18 months of jumbo loan installments in your account. This amount is not frozen or used but is required as show money.
Down Payment: Lenders usually ask for 20% in down payment, on average this is the case for conventional mortgages. Although in the case of jumbo loans a lender might ask for more. But what down payment a lender might specifically offer will depend on various factors including, the interest rates, credit reports of the borrower, economic conditions of the market, and competition with other lenders. Not all lenders offer conventional loans, which is why if multiple lenders in an area do offer jumbo loans, the requirements might be more flexible. In the most likely case where the down payment required will be more flexible, someone with a higher credit score will likely be offered a lower down payment requirement than a borrower with a lower score.
Debt to Income (DTI) ratio: DTI ratio depends more on market conditions than other factors. While higher credit scores do mean more flexibility from lenders, they aren’t the whole picture. DTI ratios are the best example. The required DTI is usually based on what is acceptable in the market. Unlike other metrics used by lenders, DTI has a limit, beyond this limit, it is risky for a lender to approve the loan and also risky for a borrower to take on the mortgage. Since the market usually accepts a DTI of 36% to 43%, this will also be the acceptable DTI for jumbo loans.
Is a Jumbo Loan Right for You?
Jumbo loans are approved for rates that go beyond the limits of conventional mortgages, accordingly meeting the standards required for qualification is not easy. Jumbo loans are usually meant to be used for purchasing properties in areas where properties cost more than conventional mortgages can cover and their requirements require the borrower to be someone with not only very strong credit but also multiple sources of revenue. The underwriting for these mortgages is very strict and underwriting actually takes place twice.
If you are someone that is financially strong and your financial documents paint you as someone with excellent ability in handling finances and credit, you are a likely candidate for jumbo loans.