Q: What is a “jumbo” mortgage?
A: Another term for jumbo mortgage is ‘non-conventional’. Quite simply, conventional mortgages are underwritten to federal government guidelines whereas non-conventional loans are underwritten to individual bank guidelines. Investors can be assured of the quality of a conventional loan based on standardized qualifications and the underlying paper is easily sold. However, non-conventional loans typically are serviced and held by the bank that originally underwrote the loan as there is no set of standardized qualifications across all lenders.
Q: Is there a loan size cut-off?
A: In Texas, a single-family residence has a loan cut-off of $453,100. FNMA & FHLMC set these limits each December for the coming year. It is determined by state and sometimes metropolitan ares (MSA). Be careful, that is not the house price, but the loan amount. We’ll talk about strategies down the page.
Q: Is there rate differences between jumbo and conventional?
A: Typically, jumbo rates are higher than conventional rates. I’ve seen them 1% apart and I’ve seen them exactly the same. On average, expect 0.5% higher in rate.
Q: How do underwriting qualifications differ between jumbo and non-jumbo?
A: For many investors, the underwriting qualifications are stiffer for jumbo loans. The reason is this: the bank is stuck with the loan for as long as the borrower has it. The bank needs to be assured of the quality as examiners review their books on a continual basis.
Q: Any other reason why underwriting is typically more difficult?
A: Borrowers who buy higher priced homes are often more ‘complicated’ than conventional borrowers. At a high level, their tax returns are more involved. Many are self-employed, in sales or own (even partially own) various entities. Therefore, careful review of tax returns from all areas of the borrower’s file is needed. Additionally, since the properties are more expensive, there is more exposure to the bank, so the appraisals are carefully reviewed to ensure the collateral is solid.
Q: Speaking of taxes, what do they want? Why?
A: Lenders require the last two years of tax returns. If you filed a tax extension, they will take the extension and the previous two years to have two full years to review. If you own a company or own/partners in >25% of a company, they will require a full set of business returns. For C Corps, LLCs and LLPs, they will determine the % owned by the K1 filed. The lender is looking for consistent income as that is used to predict the future income.
Q: Well my CPA does a great job of limiting my tax liability. I can easily report more income, but I want to use all the deductions that the IRS allows. That’s legal.
A: A lender can’t tell a CPA what to do or not to do. At a 50,000 foot view, the rule is this: whatever you tell the government you earn is what you are telling the bank you earn. Lenders will add back certain items to help income (e.g. depreciation, mileage expenses), but generally, if your AGI is $100,000 on your taxes, that is what the bank uses.
Q: Are there any differences for loans > $1 million?
A: Generally, the lender will require two appraisals to verify the value of the property. Rates are also a tad higher for loans over $1mm. Thirdly, debt-to-income ratios are typically lower and credit scores need to be higher. Finally, the amount of required reserves increases.
Q: Reserves? What are those?
A: In a nutshell, funds in your various financial asset accounts. Lenders require a certain # of months to be in the account to ensure the borrower has enough to pay the loan in lean times. Lenders require anywhere from four months to 18 months depending on who the lender is and the loan amount, credit scores, etc. Important note: business account funds cannot be counted unless your CPA is willing to write a letter stating the liquidation of funds in the business account will not affect the business in any negative manner.
Q: How long does it take to close on a typical jumbo loan?
A: No real differences if the borrower is prompt in returning all paperwork when requested. I see most real estate contracts with 30 – 45 day closings.
Q: I need to a bit of remodeling. Can I finance improvements with my jumbo loan?
A: Most likely, it will be handled as a construction loan. If the remodeling is on the small scale, you can do a simple renovation loan and finance it all at once.