Whether you're dreaming of a large, expensive house or simply want to move to an area with high property values, a jumbo loan could be the recipe for making this dream a reality. But jumbo loans -- also called super-conforming loans -- aren't free money, and these loans can quickly become a nightmare if your home's value plummets, because jumbo loans usually have higher interest rates than traditional loans. Just like any other loan, you'll need to make sure you're prepared for the nasty surprises financial life can offer and have a back-up plan to ensure you don't end up in foreclosure.
Jumbo Loan Basics
The amount of loan that qualifies as a jumbo loan varies by location, but the minimum amount is established by the Office of Federal Housing Enterprise Oversight. Jumbo loans exceed the maximum borrowing limits of Freddie Mac and Fannie Mae, so they neither guarantee nor purchase these loans. Many lenders also establish "super-jumbo" loans, which have more stringent criteria and are even larger than jumbo loans. Although these loans often finance large, expensive homes they may be a necessity in some areas. In San Francisco, for example, "Realtor Mag" reports that the median home price as of 2013 is $552,600, which means that even middle-class homebuyers may find themselves applying for jumbo loans.
Interest and Credit
Jumbo loans generally have more stringent credit requirements than traditional loans, which can put them out of reach for many buyers. Even if you meet the credit requirements for a jumbo loan, these loans typically have higher interest rates -- often 0.5 to 1 percent over the rate of a conventional loan.
Because jumbo loans are so large, they have higher down payment requirements. Lenders used to allow jumbo loan borrowers to put as little as 5 percent down, but now borrowers can expect a minimum requirement of 20 percent. Saving this money can take years, and can interfere with your ability to save for other things -- including an emergency fund to pay your mortgage if you lose your job.
Foreclosure and Cost
Monthly jumbo mortgage payments can be expensive, and some borrowers struggle to make their monthly mortgage payments. If your home value plummets, you may end up underwater on your mortgage. This can make it nearly impossible to refinance and cause you to lose equity in your home. In some cases, buyers can end up in foreclosure because they simply can't afford the challenging financial burden of a jumbo loan.
Van Thompson is an attorney and writer. A former martial arts instructor, he holds bachelor's degrees in music and computer science from Westchester University, and a juris doctor from Georgia State University. He is the recipient of numerous writing awards, including a 2009 CALI Legal Writing Award.