A mortgage preapproval involves a lender pulling your credit and reviewing your financial situation to see whether you qualify for a home loan and how much house you can afford.
You will need to provide several documents, including pay stubs, tax forms and bank statements, for the lender to check your earnings, debts and assets. If you qualify based on that information, the lender will estimate the amount you can borrow and document it in a preapproval letter.
When you’re ready for preapproval, understanding how this step works and doing a little prep can be helpful.
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Mortgage Preapproval vs. Prequalification
As you go through the mortgage application process, you may hear lenders use the terms preapproval and prequalification interchangeably. Both refer to types of approvals that verify you can pay for a mortgage, but they are slightly different.
Prequalification. “A prequalification is just a quick snapshot of where the borrower’s finances are with basically some verbal information that they are providing,” says Paul Wendland, mortgage banker with SouthState Bank in Florida.
The lender collects financial information from you but does not pull your credit report or review documents to determine what you can afford. You will receive a letter after you’re prequalified that gives you an idea of your loan amount, interest rate and other terms.
The letter is usually good for 30 to 90 days to show an agent or a seller that you’re working with a lender. Generally, prequalification is a solid first step but doesn’t carry the same weight as preapproval because the lender hasn’t verified your credit history and financial information.
Preapproval. “A preapproval is a little bit more in-depth” than a prequalification, Wendland says. “We’re actually obtaining the formal income documentation and asset information, such as bank statements and retirement accounts, and we review their credit more thoroughly.”
Preapproval gives you a clearer sense of your mortgage terms because it’s based on a more comprehensive review of your finances. A preapproval letter usually includes estimates of your loan amount, interest rate and monthly mortgage payment, plus an expiration date.
How long your preapproval will last depends on your lender, but up to 90 days is common, according to Rocket Mortgage.
When you’re ready to shop for a home and you’re confident that you’ve found good offers from a few lenders, move forward with mortgage preapprovals.
Getting preapproved is crucial, says Trent Davis, real estate broker associate with Coldwell Banker Residential Real Estate — Florida. “If you find that piece of real estate that you want, a seller, for the most part, won’t consider your offer until you can supply a preapproval letter,” Davis says.
Although a preapproval letter puts you ahead of other buyers who don’t have one, it does not guarantee you a loan. It is also not a binding agreement, which means you can still shop around for lenders once you select a house.
[Read: Best Mortgage Refinance Lenders.]
How to Get Preapproved for a Mortgage
Understanding the mortgage preapproval process can help you prepare your finances for it. What to do:
Make a financial plan. Determine how much you can afford to pay toward a loan every month before the lender makes a recommendation.
The amount you’re preapproved for depends on your debt-to-income ratio. Most lenders like to see that your combined debts equal less than 36% of your income before taxes, though you could be approved with a DTI of 45% to 50%.
Just keep in mind that you will also need enough money to cover your down payment, which could be up to 20% for a conventional mortgage, and closing costs.
Check your credit report. You can check your report from each of the three credit bureaus online weekly through April 2022 at AnnualCreditReport.com.
Your credit history and credit score are major factors in whether you’re preapproved and what interest rate a lender charges you. If your score has room to improve, you can do so by paying down debt and making on-time payments every month.
Also, know that lenders are loosening credit restrictions put in place early in the pandemic to reduce the risk of defaults and foreclosures. Compared with the height of COVID-19, “Lending standards have continued to relax,” says Andrina Valdes, chief operating officer of Cornerstone Home Lending Inc.
Collect your documents. Lenders will look at your credit history, income, assets and debts to see whether you should be preapproved for a mortgage. Before applying for preapproval, gather your:
— W-2 forms from the last two years.
— Most recent pay stubs.
— Copies of tax returns for the last two years.
— Personal bank statements for the last two to three months.
— Identification, such as a driver’s license.
If you are self-employed, you will need more documents, including:
— An audited earnings statement.
— Business tax returns for the last two tax years.
— Documentation of other income sources, such as Social Security payments.
— Business bank statements for the last two months.
Research lenders. Ask questions and talk about timelines for closing. Take notes about your experience.
A good lender will explain your options, help you find the right mortgage for your financial situation and disclose all costs.
After closing, research your loan servicer, which processes your mortgage payments. You can use the Consumer Financial Protection Bureau’s complaint database and the Better Business Bureau for your research.
Apply and compare offers. You can apply for preapproval after you’ve used prequalification to narrow down your options to a few lenders with the best rates and fees.
With a preapproval, you may be able to negotiate better terms by pitting lenders against one another. “I would suggest getting preapproved through one lender and taking it to someone else and say, ‘Hey, can you beat this?'” Davis says.
Even a small difference in your interest rate can make a substantial difference in how much you pay over 30 years.
How Long Does It Take to Get Preapproved for a Mortgage?
The preapproval process may take one to three days, but the time frame could stretch longer during periods of high demand. How long you take to gather documents can also affect your wait.
You can speed up the process by collecting documents before you apply.
Do Mortgage Preapprovals Affect Your Credit Score?
Getting a home loan preapproval can temporarily lower your credit score by a few points because the lender performs a hard pull on your credit during the process.
However, you can shop around and not worry about hurting your credit. Multiple credit checks from mortgage lenders over a 45-day window will count on your credit report as a single inquiry.
Improve Your Chances of Getting Preapproved
You can take steps to avoid being denied a mortgage preapproval.
A borrower “could have the income, but something on their credit is preventing them from being able to move forward with the mortgage,” Wendland says. “If they get that out of the way first, it gives them a clear path to purchasing their home.”
How to clear a path for yourself:
Fix errors on your credit report. Credit reports aren’t perfect, and errors that affect your score can happen. Find and fix errors on your credit report before you ask for a mortgage preapproval.
Pay down debt. Debt can hurt your credit and is a factor in the loan amount you could receive. Eliminating as much debt as possible can put you in a better position for mortgage preapproval.
Save more. Saving is a sound move for your finances, but it will also make you a better loan candidate in the eyes of the lender.
Strive to tuck away at least three months’ worth of mortgage payments to help you cover financial emergencies without going into debt. If you can save up to six months of your monthly expenses, that is even better in the long run.
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