Mortgage Pre-Approval vs. Pre-Qualified. We’ve written about this topic previously but feel it is one that needs to be revisited. This is a great question. There are many of us who don’t know the difference and also don’t understand the difference. I would like to break it down and give you some insight into both options. Let’s wrestle through this, then you can see who makes it out on top.
A pre-qualification is when a bank/lender will take in all of your information verbally to complete your loan application which will include your SSN, birthdate, two-year living history & two-year work history, income, assets, properties owned and will then run your credit.
With this information you have provided they may run your loan application through an automated underwriting system (AUS). Based on the information you provided the AUS system will determine if you are approved for your desired purchase price. It also provides information to the lender on what documents will need to reviewed for a pre-approval. This part may or may not be mentioned to you until once you are under contract.
Sounds pretty easy right? And quick? You may even consider it the “rocket” mortgage. It is definitely quick and easy and you will get immediate answers if you are qualified to purchase. Banks and lenders who have done a pre-qualification will also give you a lender letter. A lender letter states that you are approved to purchase at a specific purchase price or maybe for a specific address.
For a mortgage pre-approval, you will provide all the same information as you did for a pre-qualification but will also provide the financial documents that support your information. The bank/lender will review your two most recent paystubs, two months most recent bank statements, last two years tax returns and W2’s and may also need most recent statements from your asset accounts (401k, IRA, Stocks).
After reviewing, your bank/lender will then provide you with a lender letter if you are pre-approved.
The difference between the two is easy to figure out on the surface, but the real question is what is really the difference? You may also be asking yourself why would you need to provide all the financial documents prior to going under contract. It seems like a lot of unnecessary work and time when your offer hasn’t even been accepted.
Let me explain the importance and difference as it pertains to Denver’s Real Estate market. When I say Denver, I am referring to all of metro Denver and surrounding areas. We all have heard how hot our market is and how there are more buyers than there is inventory. This creates a frenzy amongst buyers. Buyers are frantically looking, putting in multiple offers, some even over bidding, etc. Here is where the difference between being pre-qualified and pre-approved makes all the difference.
Offer accepted being pre-qualified
You are under contract, now you will need to provide all your financial documents to your bank/lender. They will submit your file to underwriting for approval. At this point you will be paying for an inspection (approx $400), an appraisal ($550-700), possibly a sewer scope ($200), maybe even a radon test ($100). You now have invested approx $1250-1400, all which is non-refundable.
You hear back from your bank/lender that your paystubs don’t show a full 80 hours of pay, and your overtime you were including when you disclosed to your bank/lender doesn’t qualify because you haven’t had the history of receiving. Your qualifying income will now be reduced. With the reduced income, it puts your debt-to-income (DTI) too high. Now in order to bring your DTI down you will need to pay off one of your credit cards. The balance of the credit card is $5000. If you don’t pay if off you won’t bring your DTI down, and if your DTI doesn’t go down then you don’t qualify and will be denied for your loan. You don’t have $5000 to pay off the card because you need those funds for your down payment. What do you do?
Now, this is only one scenario, there are multiple scenarios that can change your loan approval once your financials are reviewed. The problem is that you are under contract and you have already invested money into this property. In this situation, you are in a very undesirable and irreconcilable situation, your back may be up against a wall. In some cases, this can be rectified, possibly with more documentation and obstacles to work through but for some, there is no rectifying and the loan can’t be saved so they will get denied. Which would mean the money you already invested in the property will be lost.
Offer accepted with pre-approval
Fortunately, you were able to speed your pre-approval process because you had a lender that had a secure document upload and a mobile app (hint, hint, like us)! A “rocket” style pre-approval, so to speak, which made it easier with electronic documents. You’re bank/lender reviewed and discussed any concerns they may have found. You may have even needed to provide further documentation and/or provide explanation letters. It is possible that due to their findings you had to decrease the purchase price you were wanting. Or perhaps, you found you could increase your purchase price. Either way, you discussed loan options, down payment, closing costs, etc. You were confident and comfortable with the numbers and knew what to expect when you started looking at homes.
Now, your file gets sent to underwriting, you’ve paid all the needed out of pocket expenses (inspection, appraisal, sewer scope, radon test). You quickly hear back from the bank/lender that the underwriter has reviewed and all that is needed from you is to provide a few more documents, which is not a problem, so then your loan is approved. Fantastic!
Both of the scenarios mentioned above are exacts, they are just examples. Trust me, there are many factors that can throw off a loan approval. Which is why it is safer to have your financials reviewed prior to going under contract.
I know I stated you can decide for yourself which option is better but if you haven’t figured it out already, then I’m not sure this article is for you. Getting pre-approved may seem like more work and may take more time but ultimately it will save you time and perhaps money in the long run.
A pre-qualification letter has no legs to stand on. Listing agents are catching on to this too. Many of them will not accept offers where the buyer has only been pre-qualified. They are calling lenders and verifying if tax returns have been reviews, assets, paystubs, etc. They want to accept offers that they know will close.
When you are only pre-qualified you can be setting yourself up for disappointment. Wouldn’t you rather KNOW when you are making an offer for a property that you able to close? If so, then you need to get pre-approved.
Take the time, be better prepared and informed. Your time and money should be worth putting forth the added time. Most likely you have already known that you are ready to purchase and may even be ready to look at properties. Take the time needed and better prepare yourself with gathering your financial documents.
Our office can do a pre-approval in 24 hours, possibly less. In most cases, your pre-approval is good for an infinite amount of time so long as your financial situation doesn’t change (income, employment, assets). It is your credit report that can only be used for 120 days. After 120 days your lender will need to re-run your credit. This may help in deciding when you should get pre-approved.
Please give us a call if you would like to discuss or if you have any questions.