If you sold a house in Washington recently, you have an idea how prices are stagnating. The average price for most of the market rose by only 3 percent from the last quarter of 2013 to the last quarter of 2014, according to Redfin data.
But if you sold a house in the top 5 percent of the market, where properties average $2.402 million, you know how the luxury market is booming. Prices in that range rose 25 percent during that time, according to Redfin.
The District’s luxury market was so strong that it ranked No. 11 among U.S. cities with the highest number of homes selling for $1 million and up, according to a report issued this week by Coldwell Banker.
Soaring prices and sales in the luxury market are factors in the rapid growth of “jumbo loans” in the Washington area and around the nation. Nearly 1 in 4 mortgages originated in 2014 around the country were jumbo loans, spurred also by lenders’ efforts to make the mortgages more attractive to buyers.
Jumbo loans refer to mortgages that are above the conforming loan limit set by Fannie Mae and Freddie Mac, which is $417,000 in most areas of the country.
In the Washington metro area and other communities with high housing costs, the limit for conforming loans is $625,500; in a handful of areas such as Alaska and Hawaii, the limits are even higher. According to Inside Mortgage Finance, a publication for mortgage lenders, 23.5 percent of loans in 2014 were jumbo loans, the largest share since the publication began tracking those loans.
The trend has continued this year, with jumbo loan originations up by 9.8 percent in the first quarter of 2015 compared with the first quarter of 2014.
Limits for conventional conforming loans purchased by Fannie Mae and Freddie Mac are calculated each year, said Mark Deitz, a senior vice president at EagleBank in Potomac.
In 2006, the limits were $417,000 in all housing markets with the exception of Alaska, Hawaii, the U.S. Virgin Islands and Guam. Beginning in 2008, in response to the housing and financial crises, two sets of loan limits were created: “general” and “high cost” limits, which referred to areas with higher housing costs.
“Loan limits were expanded because there was a lack of a secondary market for non-conforming loans; no one wanted to buy them because they were considered too risky,” Deitz said. “Allowing larger loans to be considered conforming helped handle the threat of a complete lack of financing in high-cost markets.”
Aftermath of housing crash
Scott Davis, a branch manager and vice president with SunTrust in Sterling, says that most lenders withdrew from the jumbo loan market after the mortgage meltdown.
“Only a few niche lenders were left, and they typically raised interest rates on those loans and tightened the guidelines for borrowers,” Davis said. “Because of those higher standards, almost any loan written since the meltdown has been a pristine loan. Since 2013, lenders have been coming back and offering more jumbo loans. I wouldn’t say they’re loosening up completely, but it is a little easier to get an approval for a jumbo loan than in the past.”
Conforming loan limits for high-cost areas such as the Washington metro area were reduced to $625,500 from $729,750 in January 2014.
Deitz said that reduction helped expand the resurgence in jumbo loan lending that began about four years ago, since all conventional loans for $625,500 and above are now jumbo loans. The maximum amount lenders will offer varies, with many capping the amount at $3 million or $4 million. Deitz says the typical jumbo loan in the D.C. area goes up to $1.5 million. Borrowers of higher amounts usually need to make a significantly higher down payment, of as much as 40 percent or 45 percent.
Until recently, borrowers who needed jumbo loans expected to pay a much higher interest rate than those on conforming loans and to make a down payment of 20 percent or sometimes 25 percent or more to qualify for a loan. Today, the interest rates and down payment requirements are more aligned with conforming loans. Jumbo loan borrowers still typically need to prove they have cash reserves in the bank, a high credit score, a solid employment history and a low debt-to-income ratio.
“Private mortgage insurance is not typically available on jumbo loans, which is one reason borrowers usually need to make a down payment of at least 20 percent, although some lenders make exceptions for well-qualified borrowers,” said Craig Olson, senior vice president of mortgage operations for Pentagon Federal Credit Union, which is based in Alexandria.
Interest rates can be a bit higher on jumbo loans simply because of the amount of money involved and because it can take longer to sell a higher-priced home if the lender must foreclose on the property, Olson said.
“There’s definitely a difference now that the real estate market is recovering, with more lenders offering jumbo loans and even the ability to find a jumbo loan with a down payment of less than 20 percent,” said Barbara Roubo, a senior loan officer with MVB Mortgage in Reston.
Davis said that when lenders allow borrowers to make a down payment of 10 or 15 percent on a jumbo loan, they typically require more cash reserves in the bank. At a minimum, these borrowers would need to have at least six months of their monthly housing payment in liquid funds, including the principal, interest, taxes, insurance and homeowner association fee. Borrowers who own more than one property must have cash reserves to cover the payments on those properties for a specified time period. Roubo said that mortgage investors generally require between two and six months in cash reserves for jumbo loans, but Deitz said some require 12 to 24 months of reserves for the highest loan amounts.
Davis said that some lenders don’t allow funds in a retirement account to count as cash reserves, and that other lenders limit those funds to 50 percent or less of the reserve requirement. Even if retirement savings can be counted, only 60 percent of the balance can be considered as part of the reserves. For example, if a borrower has $100,000 in a 401(k) account, only $60,000 would qualify as cash reserves, and that $60,000 would have to be less than half of the reserve requirement.
“The biggest problem in this area is that there are lots of people with great income, with a low debt-to-income ratio and excellent credit who just don’t have enough cash to make a 20 percent down payment on a $1 million house,” Deitz said. “Allowing those well-qualified borrowers to make a down payment of 10 percent makes sense for some investors.”
A borrower would be able to keep cash in the bank rather than spending it on a down payment. In addition to the down payment, jumbo loan borrowers must qualify for a loan based on their credit profile, but Roubo said that different investors have different standards for credit and other loan qualification factors such as the debt-to-income ratio.
“The standard is still a 20 percent down payment and a credit score of 720 and above,” Roubo said. “But I tell borrowers we can ‘shop the circumstances’ to find an investor that might accept them.”
For example, Roubo tested a few scenarios to see if loans would be available. A consumer with a 720 credit score who wants to borrow $1.5 million and make a 10 percent down payment did not have any options, but loans are available for borrowers with a 740 credit score who can make a 15 percent down payment.
“Lenders charge slightly higher interest rates and fees to borrowers for different factors such as a lower credit score or a higher loan-to-value,” Roubo said. “They may be even a little tougher with these overlays on jumbo loans than conforming loans because of the higher risk associated with the higher dollar amount.”
For example, Roubo said that a borrower with a 680 credit score making a 10 percent down payment on a $750,000 loan would recently have been quoted a mortgage rate of 4.625 percent with 0 points. If that borrower had a 720 credit score, the rate would have been 4.125 percent with 0 points. The difference in the monthly payment would be about $193 purely because of the difference in the credit scores.
“There are lots of factors that go into whether someone can be approved for a jumbo loan and what they will pay,” Olson said. “Every situation is individual and depends not only on the credit score, but also on the loan-to-value, the type of property being purchased, the borrower’s employment history and their cash reserves.”
Jumbo loans are available as both adjustable-rate mortgages (ARMs) and fixed-rate loans.
“There’s always an ebb and flow in the number of people who choose an ARM,” Deitz said. “This area is transient, so for some people an ARM with a fixed period of five to seven years makes sense, especially because a difference of 1 percent in the interest rate can mean significant savings on a $1 million loan.”
Olson says that when interest rates crept up last year, adjustable-rate mortgages became more popular. Pentagon Federal offers a “5/5” ARM for jumbo loans in which the interest rate is fixed for the first five years and then adjusts once every five years. He says this loan program has been particularly popular because the interest rate is typically 1 to 1.25 percentage points lower than those for fixed-rate jumbo loans.
“In the D.C. area, most lenders have to do a lot of jumbo loans, so it’s important to work with a local lender, one that’s headquartered here, because they have a lot more experience with getting these loans approved so that your transaction can go through,” Davis said.
Consulting an experienced lender is the best way to find out whether you can qualify for a jumbo mortgage.
Michele Lerner is a freelance writer.