How to Structure a Jumbo Loan to Your Advantage

As a home buyer might imagine, jumbo loans have different terms and conditions than standard mortgage options because the lender is giving up a substantial amount of money to a single client. While jumbo loans have become easier to obtain, there are still plenty of caveats for home buyers to learn. But for confident home buyers who know they have the financial stamina to see the loan through, a jumbo loan may be the only way to break into a much nicer neighborhood (and increase the chances of a dramatic appreciation).

How Jumbo Loans Work

There are no set limits when it comes to a jumbo loan. Most people think the conforming limit is around $453,100 or so, but the truth is that a jumbo loan is based on the property values of the surrounding neighborhood. So for buyers purchasing homes in a suburb of Kansas, a jumbo loan would likely be any loan for $453,100 or more.

But if home buyers are opting for Beverly Hills, then a jumbo loans minimum could be $679,650 or more. It should be noted that these values change constantly as property values rise and fall. These loans are largely unregulated, so lenders are taking an even bigger chance if the buyer happens to default on their loan.

Who They're For

There are ways for buyers to structure a loan to work for them. In fact, interest rates have come down in the past few years so they're not quite as staggering compared to conventional loans. In some cases, they're actually lower than a conforming loan. Jumbo loans are recommended for those who have a very low debt-to-income ratio and a very high credit score.

For most jumbo loans, buyers will go through several underwriting reviews before they're approved. Lenders will scrutinize a buyer's financial history extensively to ensure the risk of default is low enough to approve. Each lender will have their own criteria, but these loans are meant for buyers who have well-paying jobs with enough savings to cover the loan if they hit a rough patch.

The Down Payment

Arguably the most important step any buyer makes when it comes to their loan, the down payment sets the stage for the rest of the buyer's payments and rates. Put simply, the more money a buyer puts down, the more equity they'll have in their home. While the rules have recently changed for jumbo loans to allow more buyers the ability to afford a jumbo loan, the ideal number to hit is at least 20% or more. (Even with the recent changes, many lenders won't accept anything less than a 15% down payment on the home.)

Those who don't have at least 20% equity in their home will be forced to pay private mortgage insurance (PMI), which can add up to 1% of the cost of the home every year until 20% equity is reached.

Type of Loan

Adjustable-rate mortgages may be a smart move for those who purchase property in a lower-end market, but it can be a big financial risk for someone taking out a jumbo loan. Even a small hike in mortgage rates can be crippling when it comes to a half million dollar loan. Instead, buyers should consider a 15- or 20-year fixed-rate loan so they can both budget appropriately and build equity quickly.

In general, buyers searching in a particularly hot market (e.g., San Francisco, New York City, etc.) are more likely to find smaller lenders offering attractive interest rates. For those looking for mansions in lower-priced markets, buyers are more likely to have to work with a major bank at more expensive rates.

Long-Term Finances

For buyers who want to invest their capital in other markets, there is the possibility of taking out two mortgages on the home. With this option, the buyer lets the lender know they'd like to take out a loan on the remaining balance of the 20% down payment. So for a home that costs $600,000, a buyer could put down 15% at $90,000 and then take out a second loan for the additional 5%.

So now, a buyer has a second loan out on the balance of $30,000, and another loan for the remaining $480,000. This strategy is typically only recommended for those who plan on paying off the second mortgage quickly, as they'll have a far higher interest rate if they choose this route.

Jumbo loans afford plenty of opportunity to home buyers all across the country, but if buyers aren't careful, they may find themselves swallowed up by high-interest rates and private mortgage insurance. Talking to an Inlet Cove real estate agent or a financial planner can be a good way to find the perfect structure for a jumbo loan.