Is it time to ditch your jumbo mortgage?by Peter Miller
For the past few years, the lending industry has been in a tizzy over jumbo mortgages, the big loans that Fannie Mae and Freddie Mac will not guarantee. Just a few years ago, the market for jumbo loans was quite thin. But with banks more financially stable and looking to lend, the jumbo market is picking up, and small, big and every size bank in between are jumping into the mix.
Vickie Elmer of the New York Times wrote, “Lenders made $63.8 billion in jumbo loans in the first quarter, 18 percent more than in the first quarter of last year, according to the latest data available from Inside Mortgage Finance, which estimated that jumbo loans accounted for 16.6 percent of all loan originations in the first quarter, up from 9.9 percent for all of 2009.”
Despite the increased interest and availability, perhaps you should consider ditching your jumbo in favor of a smaller mortgage that Fannie Mae or Freddie Mac will guarantee.
Mortgage rates: always consideration
Perhaps if mortgage rates weren’t as low as they currently are, we wouldn’t be having this conversation. But jumbo borrowers are always looking for ways to make their capital go further. Since many of the traditional small-risk investments–bonds and CDs—currently pay next to nothing in terms of interest, a better use of your cash may be to pay down your jumbo mortgage in favor of a smaller loan.
However, to get the best mortgage rates available, jumbo borrowers must do more than refinance. You must pony up enough cash to turn your nonconforming loan into a conforming loan. By reducing the loan size to at least the conforming limit of $625,500, you can cut both your loan size and overall interest costs.
At first it might seem as though the interest savings are small. However, if you go from $750,000 at 5 percent to $625,000 at 3.5 percent, the savings are substantial. Remember, jumbo borrower pay a premium (around 0.5 percent) to take out that larger mortgage. By refinancing to a conforming loan, you can avoid the premium and lock in a rock-bottom rate.
Saving nearly $15,000 a year
For example: A 30-year, $750,000 mortgage at 5 percent has a monthly principal and interest cost of $4,026. Reduce the principal balance to $625,000 and lower the rate to 3.5 percent and the new monthly cost is $2,807. That’s a savings of over $14,600 a year.
Of course, to earn the savings shown in our example above, you would have to bring $125,000 to closing in order to reduce the loan amount. However, you are benefitting from saving $14,600 annually and–not only that—the money that is saved is not taxable income. For wealthy borrowers in higher tax brackets, the combination of interest savings and tax reductions are meaningful.
Are jumbos really necessary?
As more wealthy homeowners refinance into smaller mortgages, it makes it harder to argue that jumbo mortgages are necessary to maintain the steep housing prices seen in high-cost areas. It turns out that we have enough people in the upper brackets who can afford such properties, whether or not their mortgage is conforming. This should help comfort homeowners who are selling in some of America’s richest neighborhoods.