In most parts of the United States, a jumbo mortgage is any mortgage debt underwritten by Fannie Mae and Freddie Mac that is $417,000 or above in size, as of 2010. However, in high cost areas, such as California, the jumbo mortgage designation starts at $729,750. In Alaska and Hawaii, the low cost jumbo cut-off is $625,500 and the high cost cutoff is $938,250. An ARM mortgage is an adjustable rate mortgage, meaning that the interest rate can and will adjust at preset intervals throughout the life or term of the mortgage.
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Significance
A jumbo mortgage carries a higher risk for the lender due to the value of the home. Many times, these homes are harder to sell in the event of foreclosure, due to the limited number of borrowers who can afford such prices. Therefore the interest rate on a jumbo mortgage is typically 1 to 2 percent higher than a conventional mortgage. ARM mortgages, however, typically have lower interest rates than fixed rate mortgages, which can help to lower the interest rate charged to the borrower.
Function
An ARM mortgage rewards the borrower at the beginning of the debt for taking on a risk that interest rates might rise in the future by having a lower interest rate than a fixed rate option. However, the interest rate with an ARM may rise or fall over the life of the loan. The interest rate will have a ceiling and a floor, though. The ceiling is the highest that the rate can possibly go and the floor is the lowest.
Types
A jumbo ARM loan can be interest-only or have a principle plus interest payment. There are numerous ARM options, including a 1/1, 2/1, 3/1, and 5/1 ARM. The first number in the fraction is the number of years into the debt the interest rate will start to change and the second is the number of times per year that the rate can change. So, for a 3/1 ARM, the interest rate is fixed for the first three years, and then, at year 4 it will begin to adjust once per year, each year, for the rest of the life of the loan.
Benefits
An ARM allows a borrower to make larger monthly payments in the beginning of the loan life in order to reduce the principle prior to the adjustment in rate. It also gives the borrower a lower required monthly payment, which can help with budgeting, or allow a borrower to get into a higher priced home than he would have normally been able to afford.
Considerations
While an ARM mortgage has some benefits in the beginning of the debt, it can have some serious consequences on the borrower if the interest rates rise later on in the life of the loan. The borrower needs to consider the fact that he may or may not be able to refinance the debt later and lock in his interest rate. He should consider what his monthly payment would be if the interest rate were to hit the ceiling outlined in the loan terms.
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