If you’re interested in buying a home, you likely have questions about mortgage loans. For example, you may have heard about a jumbo mortgage loan as a financing option. Keep reading to learn what is considered a jumbo loan and how you can qualify.
What Are Conforming and Non-conforming Loans?
Before you learn what a jumbo loan is, you must first know the differences between conforming loans and non-conforming loans.
Conforming Loans
A conforming loan is any mortgage loan that can be sold to Fannie Mae or Freddie Mac. Fannie Mae and Freddie Mac are two of the largest mortgage buyers in the United States. Congress created Fannie Mae in 1938 and Freddie Mac in 1970 to buy mortgages from other lenders. When alternative lenders have money available, they can offer more mortgage loans to prospective homebuyers.
Conforming loans must adhere to strict guidelines, which is why they are the only types of loans that Fannie Mae and Freddie Mac buy. For this reason, conforming loan rates are typically lower than non-conforming loan rates and offer additional federal protections for borrowers. The current conforming loan limit for a one-unit home is $647,200 for most areas but can go higher in expensive cities.
To be eligible for a conforming loan, borrowers need to meet these qualification requirements:
- Have a minimum credit score of 620.
- Have a debt-to-income-ratio lower than 43%.
- Have at least a 3% down payment.
A conventional conforming loan may not be ideal for you if you want to buy an expensive house in an area with a high cost of living. Due to conforming loan limits, you will have difficulty purchasing a home in a costly city like New York City or San Francisco.
Non-conforming Loans
A non-conforming loan is a home loan that can’t be sold to Fannie Mae or Freddie Mac because they don’t adhere to requirements like conforming loans. Every government-backed loan is a non-conforming loan, such as an FHA loan.
Non-conforming loans are helpful for borrowers that want to purchase an expensive home since eligible borrowers can get much more than the conforming loan limit. If you want to sign up for a government-backed loan program, then a non-conforming loan is the ideal option.
Since lenders cannot sell non-conforming loans to Fannie Mae or Freddie Mac, they tend to have stricter qualification requirements and higher interest rates. Requirements vary depending on the specific type of loan you want and the lender. However, borrowers typically need a credit score higher than 580 to qualify for non-conforming loans.
What Is the Federal Housing Finance Agency?
The Housing and Economic Recovery Act created the Federal Housing Finance Agency (FHFA) in 2008 after the financial crisis to stabilize the mortgage market. The FHFA supervises and regulates Fannie Mae, Freddie Mac, and the Federal Home Loan Bank System.
The FHFA also oversees the conservatorships of Fannie Mae and Freddie Mac. In 2019, the FHFA created a Strategic Plan for the Conservatorships of Fannie Mae and Freddie Mac. The Strategic Plan aims to foster competitive, liquid, efficient, and resilient (CLEAR) national housing finance markets.
What Are Jumbo Loans?
A jumbo mortgage loan, or jumbo loan, is a non-conforming mortgage loan that offers more than the conforming loan limit. Jumbo mortgages are ideal if you want to buy a home that costs more than $647,200. Jumbo loan limits vary per lender, but borrowers can secure more than they can with conventional loans.
Keep in mind that it is possible to get more than $647,200 with a conventional loan. In certain areas where the median price of a home is higher, the purchase price of a home can go above $647,200. Check the maximum county loan limit to see how much you can get. But ensure you talk to your lender first. If the home loan is more than $647,200, the lender may classify it as a jumbo mortgage.
Jumbo Loan Qualification
As with any loan, a higher credit score can help you obtain better financial opportunities. Tier 1 credit scores can help borrowers secure more money and lower interest rates. You may worry about eligibility if you need a jumbo loan, but your credit score is 580. Unfortunately, most jumbo loan lenders require a minimum score of 700 since the loan amount is above the federal loan limit.
Since jumbo loans offer more significant loan amounts, they are financially risky for lenders. Most lenders will expect a large down payment for mortgage loan approval. Ideally, you should be able to provide at least 20% of the home’s purchase price upfront. But if your credit score is excellent, you may qualify with a smaller down payment.
Jumbo Loan Rates
Jumbo loan rates used to be at least 0.25% higher than conforming loans because jumbo loans were financially riskier for lenders. However, federal regulations changed after the financial crisis of 2008. The mortgage rates between jumbo loans and conforming loans are now very similar.
Qualification Requirements for Jumbo Loans
Were you wondering if you qualify for a jumbo loan? Jumbo loan lenders consider various factors for qualification, such as your credit score, down payment, income, and debt-to-income ratio.
Jumbo loans can offer more flexibility during the approval process. For example, if your housing payment and monthly bills exceed 43% of your income, conforming lenders may not provide approval. If your debt-to-income ratio is higher than 43%, but you have money left over after the loan closed, you may still qualify for a jumbo loan!
Your income is critical for mortgage qualification since lenders need proof that you can reliably make payments on time. For a standard conforming loan lenders might ask for two years worth of tax returns to prove income. Meanwhile, a jumbo loan lender may only require last year’s tax return. For example, if you open a small business with less than perfect credit and the business is fairly new, you will have a more challenging time qualifying for a conforming loan.
Is a Jumbo Loan a Good Idea?
Financial experts advise homeowners not to spend more than they can afford. Stretching your budget may seem fine initially, but high monthly payments can quickly become a hassle. Although a luxury home would be ideal, consider your finances before applying for jumbo mortgages.
To determine how much house you can afford to buy, you can use the 28/36 rule. This budget method states that your housing expenses should not exceed 28% of your gross monthly income. Calculating your total housing expenses includes mortgage payments, taxes, and insurance payments. In addition, your total debt should be lower than 36% of your gross monthly income. Your total debt should include quick payday loans, credit cards, auto loans, etc.
The Bottom Line
A jumbo loan is a non-conforming loan option for prospective homebuyers that want to buy a home that costs more than $647,200. Eligibility for a jumbo loan depends on your income, down payment, and interest rate. Jumbo loan rates are competitive but may require a larger down payment. If you can comfortably afford an expensive home in an area with a high cost of living, go ahead and apply for a jumbo mortgage loan!
References:
What Are Jumbo Loans?
Conforming Vs. Non-Conforming Loan: Which Is Best For You?
FHFA AT-A-GLANCE