Getting pre-approved for a mortgage is a critical first step in securing a contract for that home you had your eye on. Sellers will take your bid more seriously, and pre-approval can actually lead to a smoother, faster close, making it a must-have in many markets where the best housing deals receive multiple offers. So don’t run the risk of missing out.
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If you’d like to learn more about getting pre-approval, we’ve included a comprehensive overview of the benefits and process below. Let’s dive in!
Pre-Approval vs. pre-qualification
Make sure you are pre-approved, not pre-qualified. A prequalification is a basic examination of your finances to determine if you qualify for a mortgage. Generally, a prequalification is based on unverified information you provide and does not include a credit check or any documentation; it is therefore not a fixed guarantee for a loan.
Unlike prequalification, a pre-approval is essentially the same as applying for a mortgage, just without attaching a specific home. As part of a pre-approval, a lender will check your credit, verify your income and work, and commit to borrowing a specified amount.
When obtaining prior approval, you will receive a letter stating that the bank is willing to provide you with a loan for a specified amount. In addition to an assurance that credit and income will not be an issue later on, a pre-approval lets sellers know that you are a serious buyer and not just make an offer and disappear.
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Advantages of getting pre-approval
- You know exactly what you can afford: One of the most frustrating things that can happen in a house search is finding your dream home and then going to the bank to be told you can’t afford it. Getting pre-approval will help you know exactly what the top end of your budget is, so you can narrow down your home search before it even starts. A word of caution, do not enclose your original letter of pre-approval with your offer, especially if you are offering substantially less than you can “afford”. This gives the seller more ammunition for negotiation. Most lenders will send you a new letter of pre-approval for the exact amount of your bid (as long as it’s below your pre-approved maximum), so the sellers have no idea how much wiggle room you have.
- Sellers will take your listings more seriouslyIn that regard, submitting a pre-approval letter with an offer makes you a much more attractive buyer. Sure, your offer won’t be as attractive as a cash offer, but you’ll be taken much more seriously than a buyer whose offer still depends on the mortgage approval. Your pre-approval letter tells the seller that you want the house, and that you can afford to pay the amount you offered for it. It also says that there is hardly a chance that you will run into financing problems before closing.
- You can solve problems before you get into a time crisis: If there is a problem with obtaining funding, it is much easier to resolve before committing to a contract. Let’s say your credit score is too low and it is due to an error in your credit report. Well, this can take a month or so to clean up, and if you plan on closing your house in 45 days, it can save you quite a bit of time. On the other hand, going for pre-approval will give you all the time you need to resolve the issues you encounter before moving on to the bidding phase. You may need to order old paychecks from your employer’s payment processor. You may need copies of your 2012 tax returns, which you have since lost. Or maybe you have a borderline approval credit score, and if you were paying a few thousand dollars off your credit card balance, you’d be over the limit. The thing is, all of these things are easier to deal with if you don’t have a deadline.
- It eliminates surprises after you choose a homeSince you’ve already submitted your income documentation, had your credit checked, and jumped through other hoops in the mortgage process, you’ll be able to have a much smoother and faster closing than waiting to start your application process until you find a home. The loan closing process can take anywhere from two weeks to more than a month, from the time you submit every bit of documentation the bank wants (and trust me, there could be many). However, if you’ve already done that, your lender can start preparing your loan as soon as you have a signed contract and you won’t have to search for documentation.
What is required for pre-approval?
The pre-approval process is more formal and in-depth than a pre-qualification, so set your expectations appropriately and on time, and be prepared to provide some materials during the approval process.
First, the lender will have you fill out an official mortgage application, which may incur a fee. During this process, the lender will need additional documentation as well as a hard investigation to retrieve your credit. Make sure to check your FICO score beforehand and fix any issues you might have so that you don’t have any surprises.
During the application process, the lender can tell you the actual amount you have been approved for, as well as the interest rate charged. In short, the documentation provided allows the lender to:
- Debt to income ratio
- Income and reasonable capital to repay a loan
Documents vary by lender, but you can generally assume that you will be required to provide extensive paperwork demonstrating your income, assets and liabilities. Here’s a deeper review.
Proof of income: A comprehensive overview of your income is one aspect that lenders will use to determine how much you can afford to borrow. At a minimum, you must be willing to provide these items:
- Thirty days of paychecks showing both income and income since the beginning of the year
- Two years of W-2 statements
- Two years of federal tax returns
- Sixty days or a quarterly statement of all wealth accounts, including your checking accounts, savings accounts and any investment accounts
- Any additional documents highlighting bonuses or alimony
Proof of Assets: A statement of your assets helps prove that you have enough money for a down payment and that you can afford the closing costs. A lender will generally want to assess the following:
- Three to six months of checking and savings account statements
- Three to six months of investment account statements
- Written documentation for other cash
Any deposits not linked to your payroll require written documentation proving the source of the funds. You may even want to deposit cash under your mattress and be ready to provide written documentation on the source of that money.
Evidence of Liability: You should report any debts and liabilities and probably provide documentation as well, including things like credit card payments, car loans, or student loan debt.
Good creditLow mortgage rates are usually reserved for borrowers with a credit score above 740. If you have a lower credit score, there are still options worth considering, such as a Federal Housing Authority (FHA) loan. An FHA loan is a type of mortgage where you pay fees to the Federal Housing Authority to guarantee the loan to the bank, allowing you to pay off less than 20%.
FHA loans with a down payment of only 3.5% are available to borrowers with a credit score of at least 580. Below that number, you must put in at least 10%. People with a credit score below 500 are unlikely to qualify for FHA loans.
Employment control: Lenders not only want to view paychecks, but also verify their authenticity by calling your employer. If you’ve recently changed jobs, your lender will also want to call your previous employer. If you are self-employed, be prepared with extensive paperwork outlining your business income.
Other documentation: You must provide copies of your driver’s license and Social Security card so that the lender can request a credit report.
NEXT STEP: Get pre-approved now!
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