Truth is some people bought too much house

WASHINGTON -- Daniel H. Mudd, chief executive of Fannie Mae, knows the feeling when a physician attends a party and a guest wants a diagnosis for a rash or some other unexplained ailment.

In Mudd's case, people want to know about the housing market. Often they ask him if it's a good time to refinance their mortgage loan.

Mudd may be the go-to guy at parties because he heads the Federal National Mortgage Association, or Fannie Mae.

Fannie Mae and the Federal Home Loan Mortgage Corp. (Freddie Mac) purchase mortgages from lenders. This in turn allows the lending institutions to provide more home loans.

Frequently, mortgage rates are the topic at parties -- and just about anywhere else -- because many homeowners are desperate to know the opportune time to get out of the loans that they won't be able to afford once their teaser rates expire.

Of late, Mudd is fielding questions about a new law that has the potential to lower interest rates for jumbo mortgage loans. He certainly was pressed about it during a lunch meeting recently at The Washington Post.

First, some background.

A jumbo loan is a mortgage that exceeds $417,000, which is the purchase limit for both Fannie Mae and Freddie Mac. Loans of $417,000 and below are considered conforming because financial institutions can easily sell them to Fannie or Freddie.

Jumbo loans are needed for areas where home prices exceed that $417,000 limit, such as high-priced housing markets on the West and East Coast. Because jumbo loans are not purchased by Fannie or Freddie, they typically carry higher interest rates.

As of Feb. 21, the national average for a 30-year fixed-rate jumbo loan was 6.97 percent, compared to 6.01 percent for a fixed-rate conventional loan, according to Bankrate.com. Many jumbo borrowers have adjustable-rate mortgages. A jumbo ARM that adjusts after five years was 5.79 percent compared with 5.12 percent for a non-jumbo ARM with the same term.

In an effort to help lower rates for borrowers needing jumbo loans, the recent economic stimulus bill included a provision to allow Fannie Mae and Freddie Mac to buy mortgages above the $417,000 limit.

The new jumbo loan limits won't be the same for all areas. The limits will vary but can't be more than $729,750.

Many jumbo loan holders are certainly anxious to know if rates will fall soon. However, Mudd wasn't sure many homeowners with jumbo loans would actually see lower rates anytime in the near future.

"There will be some benefit," Mudd said. "How much? I don't know."

Mudd questioned whether investors would buy bundles of jumbo loans. Given the current mortgage crisis, investors might fear that these larger loans would be more risky, he said.

And with tighter lending standards some borrowers won't qualify because their home values have dropped.

Still, during our discussion about jumbo loans, I pushed Mudd to provide some idea of when jumbo loan borrowers might approach lenders to refinance.

"I don't know," he said.

Then Mudd added a very helpful tip that I thought I would pass along.

He said if you are worried about a 50 basis point difference in your interest rate (that's half a percentage point), you might be living at the wrong place.

Mudd wasn't talking about bargain shoppers who negotiate hard for a good loan deal or who are calculating whether a refinancing would make sense long-term.

Let's say a jumbo rate of 7 percent for 30 years comes down half a percentage point as a result of the new loan limit. On a $500,000 mortgage, that's a savings of about $166 a month.

In other words, you shouldn't be buying a home or refinancing into a mortgage that leaves you with little cash cushion. That's what led so many to be in trouble now.

If you have a jumbo mortgage and a half-percentage-point difference is going to mean a great deal to you financially -- that is, it will free up money you need to pay for essentials -- you're in too much house.

It means you are living above your means. Cornering mortgage professionals or other real estate experts at parties to press them for the best time to refinance your huge mortgage is nonsensical. You need to be asking when you should sell.

© 2008, The Washington Post Co.