In homebuying, the choice does not end with government and conventional loans. You also pick between conforming loans and jumbo loans. Their primary difference is in their adherence or not to Fannie Mae and Freddie Mac standards and resulting in varying underwriting guidelines. Pay attention to what a conforming or jumbo loan can offer you and see which makes for a good homebuying choice.
Breaking Down Conforming Loans and Jumbo Loans
Conforming loans adhere to the standards set by Fannie Mae and Freddie Mac on loan limits, credit, reserves and more. The mortgage loan limit alone easily distinguishes a conforming loan from that of a jumbo loan that exceeds the mortgage limits set by the FHFA.
The 2017 conforming loan limits for conventional loans are $424,100 for most counties and $636,150 for high-cost areas. If your loan is within or at your local FHFA loan limit, then it is considered conforming.
Notably, you can still have a conforming loan whose size is within $424,100 to $636,150. This is called a high-balance conforming loan and happens when buying a home in high-cost counties. Conforming “jumbo” loans have stricter qualifying standards, e.g. down payment and credit score than their basic counterparts. Their rates are higher, too.
Of Rates and Lenders
Generally speaking, loans within the conforming loan thresholds have lower rates compared to jumbo loans. The sheer loan size of jumbo loans commands a higher mortgage rate.
The higher rate on jumbo loans has also to do with its perceived risk factor. There is a sure market for conforming loans with Fannie and Freddie buying or securitizing these loans. Because of this demand, lenders can offer conforming loans at lower rates and price them higher for investors to buy in the secondary market.
This is not the case with jumbo loans and even when there is a bigger demand for such loans for homebuying, the spread can be narrow and results in minimal rate changes to consumers.
That’s not all. Fewer lenders offer jumbo loans. And when they do, a jumbo loan is more difficult to obtain than a conforming loan. Jumbo loans up the ante in terms of credit, down payment and asset requirements.
Conforming or Jumbo Loan?
Let’s compare the eligibility requirements for each of conforming and jumbo loans.
1. Appraisal. Only one appraisal is usually required for conforming loans; jumbo loans may ask for two as the loan size gets bigger.
2. Assets. You will be required two to three months’ worth of reserves, a one-month reserve equivalent to a full monthly mortgage payment of principal, interest, taxes and homeowner’s insurance. In applying for a jumbo loan, prepare reserves good for at least 12 months.
3. Credit. The minimum credit score requirement for conforming loans is 620; for jumbo loans, credit standards are higher and usually begin at 700.
4. Debt-to-income. Whether your gross monthly income can support your new mortgage debt is measured by the debt-to-income ratio, which can be more relaxed for conforming loans than jumbo loans.
5. Down payment. Conforming loans can ask for smaller down payments as low as 3% of the purchase price for HomeReady™ mortgages. Down payments on jumbo loans are usually 20% upwards.
6. Income. All sources of income can be used to qualify for a conforming or jumbo loan.
In any homebuying endeavor, always look around, shop and compare lenders and rates.
Justin McHood is a managing partner at Suited Connector and has been recognized by national media outlets as a financial expert for more than a decade.