A jumbo loan, also known as a jumbo mortgage, is a form of home financing for whose amount exceeds the conforming loan limits set by the Federal Housing Finance Agency (FHFA). As a result, unlike conventional mortgages, it is not eligible to be purchased, guaranteed or securitized by Fannie Mae or Freddie Mac. Designed to finance luxury properties and homes in highly competitive local real estate markets, jumbo mortgages come with unique underwriting requirements and tax implications.
Jumbo mortgages are gaining traction as the housing market continues to recover following the Great Recession.
How Big is a Jumbo Mortgage?
At what price does a mortgage exceed conventional/conforming and cross over into jumbo? It varies by state and even county. The FHFA sets the conforming loan limit size for different areas on an annual basis, though it changes infrequently. In fact, the 2017 maximum limit for one-unit properties of $424,100 (for most of the country) is the first across-the-board, baseline increase since 2006.
Currently, a mortgage in excess of $424,100 is considered a jumbo loan in the vast majority of the continental U.S. However, the conforming limit is higher in areas with steep home prices. In the highest of these “high-cost zones,” a jumbo is a loan above $636,150.
Here’s a look at how it breaks down. There are approximately 3,143 counties in the continental United States. Out of those, 2,916 have a loan limit of $424,100 in 2017. Only 108 counties have a loan limit of $636,150, including New York City, Los Angeles and San Francisco. The majority of high-cost areas are in California – which is no surprise, considering that the Golden State is home to some of the most expensive housing markets in the country.
There are also 115 U.S. counties with loan limits that are higher than $424,100 but lower than $636,150. For instance, the conforming limit in Fairfield County, Conn., is set at $601,450. In Suffolk County, Mass. (home to Boston), the limit is $598,000.
Loan limits are often even higher outside of the continental U.S.. In fact, the limits in Hawaii’s five counties range between $636,150 and $721,050. (Hawaii, along with Alaska, Guam and the Virgin Islands, is allowed to have higher conforming limits.) For a complete list of county loan limits, look here.
Qualifying for a Jumbo Mortgage
If you have your sights set on a home that costs close to half a million or more – and you don't have that much sitting in a bank account – you're probably going to require a jumbo mortgage. And if you’re trying to land one, you’ll face much more rigorous credit requirements than homeowners applying for a conventional loan. That’s because jumbo loans carry more credit risk for the lender, due to their lack of a Fannie Mae or Freddie Mac guarantee, as mentioned above. And, of course, because more money is involved.
As with mortgages in general, minimum requirements for a jumbo have gotten increasingly stringent since 2008. To get approved, you’ll need a stellar credit score – 700 and above —and a super-low debt-to-income (DTI) ratio – under 43%, at least, and preferably closer to 36%. Although they’re nonconforming mortgages, jumbos often still must fall within the guidelines of what the Consumer Financial Protection Bureau considers a “qualified mortgage,” a lending system with standardized terms and rules, such as the 43% DTI.
You’ll need to prove you have accessible cash on hand to cover your jumbo mortgage payments, which are likely to be very high if you opt for a standard 30-year fixed-rate mortgage. Specific income levels and reserves depend on the size of the overall loan, but all borrowers need pay stubs dating back 30 days and W2 tax forms stretching back two years. If you're self-employed, the income requirements are greater: two years of tax returns and at least 60 days of current bank statements. The borrower also needs to prove that he or she has the liquid assets to qualify and cash reserves equal to six months of the mortgage payments.
And all applicants have to show proper documentation on all other loans held and proof of ownership of nonliquid assets, like other real estate.
How much you can ultimately borrow depends, of course, on your assets, your credit score and the value of the property you're interested in buying (for further information, see Too Much Debt for a Mortgage?).
Jumbo Loan Rates
On the bright side, while jumbo mortgages used to carry higher interest rates than conventional mortgages (because of the larger amount of money involved and because it can take longer to sell a higher-priced home if the lender must foreclose), that gap has been closing in recent years. Today, the average annual percentage rate (APR) for a jumbo mortgage is often par with conventional mortgages — and in some cases, actually lower. Otherwise, banks may charge from 0.25% to 1.5% more interest on a jumbo loan.
Even though the government-sponsored enterprises can't handle them, jumbo loans are often securitized by other financial institutions; since these securities carry more risk, they trade at a yield premium to conventional securitized mortgages. However, of late this spread has been reduced, with the interest rate of the loans themselves.
Down Payment on Jumbo Loans
On the even brighter side, down payment requirements have loosened over the same time period. In the past, jumbo mortgage lenders often required home buyers to put up 30% of the residence's purchase price (compared to 20% in conventional mortgages). Now, that figure has fallen as low as 10% to 15%. (Bear in mind, though, there can be various advantages to making a higher down payment – among them, to avoid the cost of private mortgage insurance: See Private Mortgage Insurance: Avoid It for These 6 Reasons).
You could attribute all these low rates for interest and down payments to the fact that banks are generally very eager to find new customers for their jumbo loan packages. Jumbo mortgage borrowers are likely to be, or are on the road to becoming, the sort of high net worth individuals institutions love to sign up for long-term products. Such clients have an excellent credit history, plenty of assets and, often, the need for additional wealth management and investment services down the road. Plus, it's more practical for a bank to administer a single $2 million mortgage than 10 $200,000 mortgages.
Who Should Get a Jumbo Loan?
These mortgages are considered most appropriate for a segment of high-income earners who make between $250,000 and $500,000 a year. This segment is known as HENRY, an acronym for "high earners, not rich yet,"; it refers to people who generally make a lot of money but don't have millions in extra cash or other assets accumulated – yet.
While an individual in the HENRY segment may not have amassed the wealth to purchase an expensive new home with cash, such high-income individuals do usually have better credit scores and more extensively established credit histories than the average home buyer seeking a conventional mortgage loan for a lower amount.
Along with having more well-established credit, high-income earners also tend to have more solidly established retirement accounts. They have often been contributing to such investment accounts for a longer period of time than lower-income earners. They have usually contributed more funds to such accounts, so that the account balances represent substantial sums.
The Tax Implications of a Jumbo Loan
Just because you could qualify for one of these loans doesn't mean you should take it. You certainly shouldn't if you are counting on it furnishing you with a substantial tax break, for example.
You’re probably aware that you can deduct from your taxes the mortgage interest you paid for any given year. But you probably never had to worry about the cap the IRS places on this deduction. You can deduct the interest as long as the mortgage itself is $1 million or less. If your mortgage is larger, you don't get the full deduction. For example, if you took out a $2 million jumbo mortgage that accrues $60,000 in interest a year, you can only deduct $30,000 – the interest on the first million of your mortgage. So, you only get a tax break on half the mortgage interest, in effect.
And even though jumbos' interest rates are coming more into line with conventional mortgages', it still might behoove you to crunch numbers and compare terms, to see if taking out two smaller conforming loans, instead of one big jumbo, might prove better for your finances in the long haul.