What is Mortgage Preapproval?
Getting a mortgage preapproval is a great way to show sellers and lenders that you are serious about purchasing a home. So what exactly does getting preapproved mean?
Many people, not just first-time homebuyers, believe that purchasing a home starts with searching for the perfect home, and attending open houses. While there's nothing wrong with starting there, starting your home buying journey by talking with a lender can be more beneficial. Potential home buyers can actually gain the upper hand in buying a home by receiving a preapproval letter from a lender. And, in a lot of cases, sellers won't take you seriously unless you have one-- making it all the more important to get a preapproval letter before you start searching for your dream home.
Preapproval vs. Pre-Qualfication
Preapproval is a cut above pre-qualification, another popular place to begin the home buying process, as it involves a detailed credit check and verification of your documents. Unlike preapproval, pre-qualification usually only involves a lender taking a look at your income, debt, and assets. Prequalification can often be done quickly online for free, and, while it's a good way to estimate how much you may be able to borrow, it doesn't carry the same weight as a mortgage preapproval.
Mortgage Preapproval Letters: What are They?
A mortgage preapproval letter, for those who don't know, is a document originated by a lender after evaluating your financial profile. It states the maximum amount you're eligible to borrow for your home loan.
Seeking a preapproval letter is simple. All you have to do is consult with a lender and provide some basic information. This alone can be beneficial, as it gives you the chance of discussing your budget and the mortgage options available to you. The lender will then perform a "hard pull" of your financial history. This means that they will heavily scrutinize every aspect of your financial profile, including your credit score. Please bear in mind that the "hard pull" will affect your credit-- but not too badly. For example, FICO says that credit report inquires will usually drop your credit score less than 5 points. Don't fret too much though, as this also allows you to find out if you have any problems or red flags that you may not have been aware of that could hinder your home purchase. And, if you're looking to get preapproval from multiple lenders, FICO also recommends that you do so in the same 30-day period-- since the credit bureaus will usually count multiple inquires during this time as one "hard pull." Once this is complete, the lender will draft up your preapproval letter, which will indicate a maximum amount that you are approved to borrow. With this approval in hand, househunting within your budget will be a breeze!
What you Might not Know About the Mortgage Preapproval Process
Why you Should Shop around for a Mortgage Preapproval
Since getting a mortgage preapproval is basically a dress rehearsal for getting a real mortgage, you should shop around-- just as you would when getting a real home loan. Why? Because it could save you serious cash. According to a 2015 report by the Consumer Financial Protection Bureau, borrowers can save an average of $3,500 during the first five years of their mortgage by applying to three lenders. In contrast, more than three-quarters of Americans only apply to one mortgage lender-- and that means they could missing out on a lot of moolah.
What Documents do you Need for a Mortgage Preapproval?
Obtaining a preapproval letter requires a lender to review your financial history. To do this, lenders often need the borrower to provide necessary documentation. This often includes:
- Personal information (driver’s license, address, Social Security number, marital status)
- Recent statements from bank and investment accounts (usually the most recent two years)
- Employment information
- Recent pay stubs and W-2 income tax forms for the last two years
- Total monthly expenses, including bills paid regularly
- List of any assets (stocks, 401(k), IRAs, bonds, cash) and liabilities (any debt obligations like credit cards, student loans, or car loans)
- Profit and loss statements if you're self-employed
- Income from any rental properties
- If you're using a monetary gift from a relative to help cover the down payment, you must provide a gift letter
The plus side is that gathering these documents ahead of time will take away tons of stress at closing, as many of these documents are also required in the final steps of purchasing a home.
At the end of the day, getting a mortgage preapproval, while optional, is a great place to begin the home buying process.