Mortgage Pre-Qualification vs Pre-Approval

 

The first step in the home buying process is getting pre-approved by a lender for a mortgage loan. Getting pre-approved is not to be confused with getting pre-qualified. These two terms are often used interchangeably but actually have very different meanings. When you have been fully pre-approved for a mortgage your lender will issue you a pre-approval letter stating both how much you qualify to borrow as well as what type of loan program you qualify for. 

There are three reasons getting pre-approved is so important. The first is because most real estate agents will not start showing you houses until you have completed this step in the buying process. The second reason is because most home sellers will require a pre-approval letter from a lender before entertaining a purchase offer to buy their house. And third, not getting pre-approved can cost you a lot of money. Home buying is expensive.  It requires an earnest money deposit, paying for an appraisal and home inspection, and often other certifications such as providing a wood destroying insect report. The last thing you want to do is start spending money on what you hope will soon be your new home only to find out you do not qualify. 

Let’s take a closer look at both of these terms to better understand the differences. 

Someone who is pre-qualified for a mortgage to buy a home has spoken to a lender about their financial situation and what size of a loan they are interested in qualifying for. The lender will ask questions about their finances such as, how much money they earn monthly, what debts they have, how much they pay monthly toward their debts, what assets they have, how much of a down payment they plan to put down, and what their credit score is. Essentially, the lender is trying to get a comprehensive understanding of the potential borrower’s financial situation. Based on that conversation the lender will give them a rough approximation of whether they qualify or not as well as how much they may be able to borrow. The key takeaway here is that a pre-qualification is based on unverified information. 

To be fully pre-approved you will need to provide proof of all the information that was provided verbally to the lender for the pre-qualification. Below is a typical list of the documents your lender will request copies of for your pre-approval. 

1. Driver license

2. Social security card - for FHA, VA (DD214), and USDA

3. Last two years W2s or 1099s

4. Last two years of tax returns – all pages

5. Last 30 days pay stubs

6. Last 60 days bank statements – both checking and savings accounts

7. Last 60 days asset statements such as 401k, IRA, etc. 

8. Most recent years pension, social security, disability, statement letter(s)

9. Any other sources of income - child support received is one example. If child support is needed to qualify you will need to send a copy of your divorce decree as well as proof of child support payments being made.

If you are self employed a typical document list will include the following:

1. Two years of personal tax returns

2. Two years of business tax returns including schedules K-1, 1120, 1120S

3. Business license

4. Year-to-date profit and loss statement (P&L)

5. Balance sheet

6. Signed CPA letter stating you are still in business.

In addition to sending the lender your financial information you will need to fill out a mortgage application. Once the application is complete the lender will pull your credit to review your scores (There are usually three.), check your payment history, and determine your debt-to-income ratio (DTI). 

The lender will then typically run your application through an automated underwriting system (AUS) to get what is called an Approve Eligible. Once the system returns a thumbs up you can consider yourself fully pre-approved. 

There are two last bits of information I want to share with you regarding the pre-approval process. The first is to be upfront, thorough, and honest with your lender regarding your financial situation. Your lender will almost always find out in the end if you are concealing something. You do not want to make it all the way to the end of the buying process only to find out you cannot close on a home. 

Lastly, when your lender requests any documentation from you it is in your best interest to be sure the document is clearly scanned, converted to a PDF, and emailed or uploaded promptly. By taking the extra time in the beginning to carefully prepare and send your documents you will prevent a lot of headache later. As a loan officer I can tell you that an enormous amount of time is wasted trying to open documents that are not formatted correctly, decipher documents that are too blurry to read, or are cut off in the scanning process. Your loan officer will most likely request you rescan and resend the documents that are unreadable. This slows down the final approval process and creates frustration for both you and the lender. 

That’s it! Congratulations on your pre-approval! Happy house hunting!