Forex Articles

The two major government-sponsored enterprises, the Federal National Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage Corporation (Freddie Mac), back nearly 90% of all mortgages written by banks today. Part of that other 10% fall within a special category of loans known as jumbo mortgages, a financing option for ritzy residences – those whose price tag is close to half a million dollars or more.

First, a quick real-estate refresher: Fannie Mae and Freddie Mac purchase and securitize mortgages – guaranteeing them, in effect – as a way to free up liquidity for financial institutions in the hope that those institutions will underwrite more loans and mortgages to average consumers (see Fannie Mae: What It Does And How It Operates). To get that government guarantee, the loan and its lender must meet certain Federal Housing Finance Agency securitization limits and guidelines. Mortgages that fall within these limits are known as conforming loans. (See What You Need To Know About Fannie Mae Mortgages).

Chief among the criteria: the size of the mortgage. In most parts of the country, the cap for conforming loans in 2015 is $417,000 for a single-unit dwelling. However, more than 208 counties throughout the U.S. are designated as high-cost, competitive areas (such as Orange County, California or New York County, New York) where those limits can be as high $625,500 or more for a single-unit dwelling (for a complete list of county loan limits, look here).

The maximum limit for a conventional mortgage has actually decreased in recent years. Between 2008 and 2012, the government briefly bumped the upper-limit (for high cost areas) to $729,750, presumably to provide financing to a market wrecked by the subprime mortgage crisis (meltdown). However, after 2012, those limits decreased to the current $625,500.

Generally, any sort of loan that that exceeds these thresholds is considered a jumbo mortgage. Such loans are typically used for more expensive properties, and the mid-five figures can be just a starting point. It isn't uncommon for a bank to issue jumbo mortgages for tens of millions of dollars. Since it exceeds Fannie and Freddie's price limit, so to speak, a jumbo mortgage is considered a "nonconforming" loan. It's not subject to the agencies' guidelines and can never be purchased by them.

Given the lack of federal guarantee, it's not surprising that the criteria for securing a jumbo mortgage are more stringent than those of conforming loans.

• First and foremost, 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. You will also need to prove you have a steady stream of income; don't be surprised if a lender asks to see your tax returns for the past two years or more.

• Although they're nonconforming loans, jumbo mortgages often still must fall within the guidelines of what the Consumer Financial Protection Bureau considers a qualified mortgage. One of these rules dictates that your monthly debt-to-income ratio must be 43% or less.

• Your credit score must be in good to excellent shape. It's uncommon for a lender to approve a jumbo mortgage for someone who has a credit score of less than 700.

• Until recently, jumbo mortgage borrowers had to be able to make a down payment of 20% to 30% of the price of the home. However, some banks are beginning to relax their requirements and accept as low as 10.1% of the purchase price.

In the first quarter of 2015, jumbo mortgages saw 9.8% more originations than the same time in 2014. For all of 2014, jumbo mortgages comprised nearly 1 in 4 of every new mortgage written.

Although the underwriting requirements are strict, banks are generally very eager to find new customers for their jumbo loan packages. Your typical jumbo borrower is likely going to have excellent credit, plenty of assets and the need for additional wealth management and investment services. Plus, it's more practical for a bank to administer a single $2 million mortgage than 10 $200,000 mortgages.

Although banks are taking on more risk with jumbo mortgages (since they're not backed by the federal government), many of these loans actually carry comparable, if not lower, interest rates than traditional mortgages.

Using information from financing aggregator Bankrate, we compared the mortgage rates for two hypothetical residences (one requiring a conventional mortgage, the other a jumbo mortgage) in several highly competitive housing markets. The APRs for both properties represent a 30-year fixed-rate mortgage with 20% down, 0 points and a borrower with a credit score over 740.

$400,000 Mortgage

$1,000,000 Mortgage

New York, N.Y.

4.12% - 4.43%

4.00% - 5.12%

Los Angeles, Calif.

3.87% - 4.90%

3.87 % - 4.65%

Washington, D.C.

3.87% - 4.40%

4.00% - 4.25%

San Francisco, Calif.

3.87% - 4.90%

3.87% - 4.65%

Miami, Fla.

3.87% - 4.66%

3.87% - 4.50%

Note: Mortgage rates constantly fluctuate. These rates were current as of mid-June 2015.

Jumbo mortgages are gaining traction as the housing market continues to recover following the Great Recession. Nationwide, the average price for a house rose just 3% between the end of 2013 and the end of 2014, but in the segment of the market constituting the top 5% most expensive homes, the average property sold for $2.40 million – a 25% increase over the same period. Highly competitive and expensive housing markets such as Los Angeles, New York City and Washington, D.C., where homes can easily exceed Fannie Mae and Freddie Mac's securitization thresholds, have forced many would-be homeowners to seek jumbo loans.

Qualifying for a jumbo can be more difficult than qualifying for a conventional mortgage. Ultimately, though, it comes down to the same fundamental question: Can the borrower afford to pay back the loan over time? For more information, see Jumbo Vs. Conventional Mortgages: How They Differ.