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What Are the Differences Between Mortgage Prequalification and Preapproval?
Before diving into the home buying market, well-informed shoppers already have an idea of how much home they can afford. Both mortgage preapproval and prequalification will give you an estimate, but only one may help you unlock the door to your new home. Here’s what you need to know about both, so you can confidently take the next, exciting steps toward home ownership.
What is Mortgage Prequalification?Prequalification mortgage is the first step to securing a loan by getting an estimate of how much home you can afford. Prequalification reviews basic information that you provide and generates a figure you could be in range of. You may also get some information regarding types of mortgages and which may be the best one for your financial situation or lifestyle. Loan prequalifications can be done in person — or over the phone. Your lender will ask about your overall financial picture — debt versus income and assets, and they will estimate how much mortgage you can afford.
Bear in mind that being prequalified doesn’t guarantee your lender will approve you for that amount.
What Do You Need to Get Prequalified for a Mortgage?
If you’re wondering what price range will fit your budget, but you’re not really ready to buy — a home loan prequalification can give you that price range. Whether you speak directly to a lender or fill out an online application, they’ll typically ask for the same basic information.
While you may instantly think of your income as your regular paycheck, it can include other things as well.
For instance, do you receive payments for anything outside your day-to-day job? Freelance or odd-jobs count as income. Do you own rental properties? That counts, too.
A lender may consider legal settlements and any payments you may get from alimony or child support as part of your income. Your lender may also ask you to supply information about disability payments, retirement benefits and investment returns before getting prequalified.
Your assets are anything you own that has monetary value. But, more specifically, your lender will be interested in liquid assets. A liquid asset is anything that you can turn into cash quickly.
Lenders consider checking and savings accounts liquid because you can go to the bank and get cash from them right away. Your stocks, money market funds and bonds are also considered liquid assets as you can typically cash them out in a tight turnaround. With that in mind, lenders wouldn’t classify property, real estate, collectibles, and other items that are harder to sell as liquid assets.
Typically, these items will not play into your mortgage prequalification estimate.
A big part of your financial picture is how much you owe, or your debts. Your debts often fall into two categories. You have debts that you pay regularly, like your car loan or student loans. And then you have debts that fluctuate, like your credit card bills. A lender looking to pre-qualify you for a mortgage will ask you to estimate your monthly debt payments. You can just estimate your fluctuating debts in this situation.
Gathering this information beforehand, or at least having an idea, will help you get through the process more quickly. When you’re prequalifying for a mortgage, it’s important to remember that there are no guarantees, so you don’t need to be as precise as you will when you decide to get a preapproval.
What is Mortgage Preapproval?
Mortgage preapproval is where the serious home shopping really begins. A preapproval is much more involved and there is often a fee for this service. The lender will ask for documentation on your finances and will review your credit score.
Once they’ve figured out how much they’re willing to loan you, you’ll receive a preapproval letter listing the amount you qualify for. This is a great bargaining tool in a competitive market as it saves valuable time and shows the seller that you’re committed.
Getting preapproved may also allow you to lock in an interest rate for a specified time period, so even if interest rates rise, you benefit from the lower rate. When comparing preapproval vs prequalification, keep in mind it’s not an either-or decision. You can get prequalified when you start looking, and then, when the time is right, get preapproved.
What Do You Need for Preapproval?
If you’re ready to get preapproved, then it’s time to start pulling together your mortgage loan paperwork. This process is more involved than a prequalification because the lender will be committing to providing you with a mortgage. Your lender isn’t making that commitment with a prequalification.
As mentioned above, the bank will want to know all about your income, your assets and your debts. The one really significant difference is this time they’re going to want you to provide proof of all of those items — and probably many others.
When you get preapproved, be prepared to produce the following information:
Social Security number
In most cases, you may only need to know your Social Security number. In others, however, a lender may ask for your physical card.
Driver’s license, passport or other state-issued ID
Your lender will need to verify that you are who you say you are.
Proof of employment and proof of income
Plan on showing documentation of two or three years of employment and income history. This applies to self-employed people as well.
A lender will want a picture of your overall financial situation and may request tax documents from the last few years.
Proof of residence
Previous addresses may be necessary for mortgage-seekers with fewer than three years or so at a current address.
This includes checking, savings, money markets and other bank statements.
Proof of other assets
If you have other investment accounts — stocks, IRAs, mutual funds — you’ll have to share documentation of their value. To a lender, these are considered liquid assets.
Your lender will be interested in any other mortgages you’re paying. They’ll also want to know if you have property you own outright, or that’s no longer mortgaged. If you’re a rental property owner, the income will be provided in your income statements, but the property has value on its own.
This is where your credit report comes into play. Typically, your lender will pull your credit report and you won’t have to provide the information directly. You will, however, have to sign paperwork allowing them to get this data.
Credit reports that reflect high credit card debt, missed payments, defaulted accounts and numerous hard inquiries or mortgage applications made recently may face challenges trying to secure the best offers. Mortgage prequalification with bad credit can impact the products, rates and loan amounts offered to you.
Your credit report will include most of your debts, but there may be a few that aren’t, so you’ll want to provide any debt-related information not present on your report.
Not every lender or applicant needs to supply monthly expense information. But even if it isn’t required, these are great details to have when planning your new budget. Many banks provide snapshots of monthly expenses, so be sure to check if your bank is one of them.
Because every person’s financial situation is unique and each lender has a slightly different process, you may have to provide some additional paperwork. This list will at least give you a solid idea of where to start focusing your efforts.
Comparing Mortgage Prequalification and Preapproval
For a potential homebuyer, home mortgage prequalification and preapproval are two steps in the same journey to buying a home. Both give potential borrowers insight into how much home they can afford but present some very distinct differences as well.
For instance, buyers with preapproval status from their lender will be at a distinct advantage over those who are only prequalified because sellers will know they’re all but guaranteed to successfully close. And being prequalified doesn’t guarantee you’ll receive a loan in the amount necessary to secure a home you want to buy.
It really is only a preliminary estimate.
Let’s look at a few more key differences and similarities between the two:
When should you consider this option
When to Shop Around for a Mortgage
When you shop for a house, you’ll want to get a feel for the market. One of the ways the real estate industry captures that in the housing market is by describing buyer and seller markets by temperature. Housing markets can run hot and cool depending on several factors.
If the housing market is “cool” that usually means the landscape is favored toward the buyer. It suggests there are more homes to sell than interested buyers.
A “hot” housing market, on the other hand, is the opposite; it’s a market with many interested buyers looking at a small concentration of available homes.
When the market is hot, knowing the difference between preapproval and prequalification could help you stand out and increase the chances of a seller accepting your offer. Having a preapproval letter in hand and a lender lined up in a hot market shows the seller that you’re past the starting line and already in the race. The home seller now knows you’re approved for that amount and the sale will likely go through.
With a buyer who doesn’t have preapproval, it’s not clear that a lender will back their mortgage and the sale could fall through.
Protect Your New Home with Insurance
One final thing to remember is lenders often require that you get homeowners insurance before closing on your home. And that’s where we can help! Talk to your American Family agent for easy, affordable coverage that’s right for you.
Related Topics: Home Insurance , Owning A Home