Jumbo Loans

What are they?

If you're considering buying a home and have begun considering different mortgage options, then you may come across something called a jumbo loan. People often just assume, as the name suggests, that this is a really big mortgage. But that's really only part of it. Here's a closer look at jumbo loans, what they entail, and when they're a good choice for home buyers.

What Is a Jumbo Loan?

There is a limit on the amount banks will lend in a traditional mortgage or FHA mortgage. This limit can change annually, and it does tend to increase each year. In most areas, the limit for 2021 is $548,250 for a single-family home. In other words, you cannot take out a traditional or FHA mortgage for more than $548,250. (In high cost of living areas, like Los Angeles County, the limit is generally higher.) This limit is set by the Federal Housing Finance Agency (FHFA), and it came about as a response to the housing market crash in 2008.

So, how do people buy homes valued at more than $548,250? There are really only two options. You can save up a really large down payment, so you can get away with only borrowing $548,250. Or, you can apply for what's known as a jumbo loan - a mortgage that exceeds the $548,250 limit set by the FHFA.

When Should You Take Out a Jumbo Loan?

If you are really set on buying a more expensive home, and you are confident you have the income to pay off a loan of this size, then you should consider a jumbo loan. While making a larger down payment and taking out a traditional mortgage may seem like a better option, there are downsides to this approach. If you have to remove money from growing investments to make a large down payment, you may be better of leaving that money invested and taking out a larger loan instead.

How Do You Qualify for a Jumbo Loan?

This is the tough thing about jumbo loans - it's tough to qualify. That's because, in offering a jumbo loan, the bank is taking on a lot of risk. These loans exceed the FHFA limit, which means they are not insured by the FHFA. If you stop paying on the loan, the bank will be out the money. As such, the bank will really want to be sure you're capable of paying back the loan before they approve your application.

Some things your lender will look for include:

• An excellent credit score. Technically, the lower limit is usually 680, but banks prefer to lend to customers with higher credit scores.
• Accessible funds. The bank will want to know you have plenty of savings, so you can keep paying back the loan if you lose your job or suffer a loss of income.
• A reliable appraisal. The bank may want the home to be appraised by an outside appraiser just to ensure it's worth the price you're buying it for.

Applying for a jumbo loan can involve quite a lot of paperwork, and there may be some extra fees involved in the process. However, if you are buying a home that costs more than the FHFA's current lending limit, a jumbo loan can allow you to do that. Just make sure you take a close look at your finances and your future to ensure this is feasible before you take the plunge.