Many major cities struggle with how to offer affordable housing. Buyers looking to purchase homes in places like San Francisco will struggle to find homes for less than $1 million.

How can home buyers afford such expensive markets? The answer is a jumbo loan.

Conventional loans don’t cover the high costs of living in expensive markets. If you’re looking to buy a high dollar property, take a look at these seven common jumbo loan requirements. 

What Is a Jumbo Loan?

Homebuyers apply for mortgage loans because they can’t afford to buy a property outright. The loan allows them to make affordable monthly payments instead of paying in one lump sum.

Because home buyers can’t afford to buy a home outright lenders take a risk by paying for the property upfront and assuming borrowers will repay the debt. 

The more a lender offers in a mortgage loan, the higher the risk. For this reason, it’s much more difficult to qualify for a jumbo mortgage loan. 

What is a jumbo loan? It’s a mortgage loan over $500,000 in most states. There are exceptions based on your local housing market.

In more expensive markets like on the West Coast and the Northeast, jumbo loan minimums are closer to $700,000. This helps more borrowers qualify for conventional loans and skip the strict requirements of jumbo loans.

There are seven basic requirements for getting a jumbo loan.

1. Credit Score

Lenders want to be reassured that you’re a low-risk borrower. This means you have a stellar credit history and good to excellent credit.

Consider applying for a jumbo loan once your credit score reaches 700 or better. This not only increases your chances of approval, but it also gets you a better interest rate.

There is a chance of getting approved with a lower score, but your mortgage terms might expensive in comparison to someone who has good credit. Spend time improving your score by making on-time payments and paying down debt. 

2. Debt to Income

The next thing jumbo loan lenders want to see is a lower-than-average debt-to-income ratio. Your debt to income ratio shows how much you spend or owe versus how much you make.

Your goal should be eliminating as many bills as possible to show a debt to income ratio of no more than 45 percent. Low debt to income shows lenders you live within your means.

If you experience a financial setback in one area, it won’t mean you abandon your mortgage payment because you’re overextended. 

3. Cash Reserves

Much like having a low debt to income ratio, having cash reserves is a sign of good financial management. Cash reserves don’t include your retirement account.

You want to show lenders 3 to 6 months of expenses in a checking or savings account. This money shouldn’t be in your primary account.

Separate the money from your everyday spending to show you don’t need the money to cover your household budget. Cash reserves should sit untouched until you close on your home.

4. Work History

You’ll need to supply past years W2s to show a stable work history. If you’re self-employed, you might be asked for two years worth of tax returns to qualify.  

Entrepreneurs should also plan to show more cash reserves. It’s not unheard of for some lenders to request 12 months’ worth of expenses since your income is more volatile when you work for yourself. 

5. Financial Documents

The tedious part of getting approved for a mortgage loan is going through the underwriting process. With a jumbo loan, lenders will likely be more careful in going through all your financial documents to make sure everything looks consistent.

They’ll double and possibly triple-check that you can afford the loan because a default on a million dollars could mean a major financial hit for the bank. Be patient and avoid pursuing a jumbo loan if you need a quick closing. 

Plan for Jumbo Loan Fees

There are a variety of government programs that make buying a home more affordable. Unfortunately, jumbo loans aren’t included in these programs.

Lenders don’t get federal backing that protects them in case homebuyers default on their jumbo mortgage loans. For this reason, buyers need to come to the closing table with more money.

Plan by setting aside money every month to cover the cost of closing on a jumbo loan. 

6. Down Payment

Jumbo loans are more likely to request a down payment of at least 20 percent, especially if you’re a first time home buyer. Keep in mind that this money isn’t the same as your cash reserves.

You’ll need a separate amount to cover the cost of your down payment and closing cost. The down payment is brought to closing as certified funds. 

7. Closing Costs & Interest Rates

Closing costs include fees to pay the real estate attorneys who draft the documents, appraisals, and other administrative fees. You can sometimes negotiate with the seller to have them cover many of the administrative costs, but not all.

Plan to pay them yourself, so you’re not hit with an unexpected expense during the buying process. Closing costs are typically around 2 to 3% of the purchase price. 

Conventional loans usually have lower interest rates than jumbo loans. If you want to get the best interest rate on a jumbo loan, the best you can do is to improve your credit score.

Market rates, unfortunately, aren’t the standard rate paid on a jumbo loan.

Do You Meet the Jumbo Loan Requirements in Your Area?

Jumbo loan requirements vary based on the minimum set in your state. A jumbo loan in one city might equal a conforming loan in another. 

Despite a few stricter requirements, applying for a jumbo loan is very similar to getting a conventional loan. You still need a strong financial and credit history to show you aren’t a high-risk borrower.

With a good financial history, you’ll qualify for the best available loan programs your lender has to offer. For more information and lifestyle tips, check our blog for updates.