Can you really afford a jumbo loan?

House on sheet of bills

With home prices at or near record highs in many parts of the country, jumbo mortgages -- loans for more than $417,000 -- are almost common.

But you need to ask yourself some very hard questions before borrowing that kind of money.

Can you realistically afford to pay $3,000 or more, month after month? Do you have enough savings to keep you with those if I get seriously ill or lose my job? If you get a jumbo loan, what else will you be able to afford?

Only you know what your actual cost of living is, what your priorities are, and how much of your income you are willing and actually able to dedicate to making mortgage payments no matter what a lender is willing to loan you.

We buy houses to live in, not to be trapped in because we can't afford to do anything but make our monthly payments.

The key is to find a loan you can live with, even if it means buying a less expensive house that requires you to borrow a more affordable amount.

Like smaller loans, jumbos come in fixed-rate, interest-only and adjustable-rate varieties. But there's one thing you can count on: You'll pay a higher interest rate than on a conventional loan.

"Typically, you pay about a quarter of a point more (for a jumbo loan)," explains Tim Kruger, senior vice president for Private Mortgage Banking Group, in Sherman Oaks, Calif. Depending upon your credit history and other factors, you might have to pay a lot more.

"The mortgage business is one of the few where the more product you buy, the higher the price goes. The reason is that lenders interpret this as an increased level of risk." The higher the risk, the higher the rate.

And no matter what type of jumbo loan you choose, you need to focus on your own risks, because when you are looking at a jumbo loan, the risks are big. Just consider the size of the monthly payment.

A 30-year, fixed-rate mortgage for $420,000 at 7% a quarter point higher than the average rate available for a conventional 30-year loan translates into a basic monthly payment of $2,794.

That just covers principal and interest and does not include property taxes, insurance or fees and assessments, which can add hundreds of dollars to your total. If you don't have a good credit score, a down payment of at least 5%, and the right balance of income to debt, you could end up paying even more.

A 15-year fixed jumbo can save you a lot of money. The interest rate is lower, probably somewhere around 6.7% and a 15-year mortgage for $420,000 would save you almost $340,000 in total interest over a 30-year. But, you would pay a whopping $3,705 a month in principal and interest, plus taxes and insurance and fees and assessments, if necessary.

Jumbo loans also come in 40- and 50-year fixed-rate products, but you can add at least another quarter of a percentage point to the interest rate, taking it up to 7.25%, or higher. Your monthly payments would be smaller due to longer terms, but you would build equity more slowly since even more of the payment would go toward interest. The monthly payment for 40 years at 7.25 is $2,686, while the 50-year loan would cost you a little less -- $2,631 for principal and interest only.

At least with 15-, 30-, 40- and 50-year loans you know what your monthly mortgage payment would be every month. With variable-rate mortgages, it's a guessing game.

Adjustable-rate and interest-only jumbo loans start with smaller payments, but they can turn into huge ones.

Interest-only loans have the lowest initial rates, because, as the name states, you are only paying interest, but nothing toward your principal. At a certain point five, seven or 10 years down the road these loans turn into fixed-rate loans for the rest of the term at the going rate and the monthly payment could more than double.

Some people sign up for interest-only loans because they are gambling that the value of the home will go up enough to let them sell it at a profit even though they have not made any payments to reduce their loan balance. If home prices fall, and right now that's a possibility, you could wind up owing more than the house is worth -- even more than you could sell it for.

Selling a house costs money. Usually 10 percent of the total sale price goes toward commissions, fees and other expenses. If you have to sell a home in which you have less than 10 percent equity, you could lose money on the deal.

However, Kruger points out, "Interest-only loans are not in and of themselves bad. It is just how they are utilized. There are no loan products that are better than other loan products. There are loan products that meet individual needs."

Like the jumbo interest-only loan, a jumbo adjustable-rate mortgage (ARM) can result in much larger payments once the introductory period of three, five, seven or 10 years is over. This, too, could add hundreds of dollars a month to the size of your monthly obligation. One advantage of choosing an ARM, however, is that you are paying both principal and interest, so you are building equity.