Ralph Waldo Emerson, U.S. essayist and poet, once said that the future belongs to those who prepare for it. This is sage advice for homebuyers who need to lay the necessary groundwork to buy the home of their dreams.
Without proper preparation, many buyers are lured into the misconception that if a lender pre-qualifies them for a mortgage, it means they have been pre-approved for a home loan. Unfortunately, there is a difference between these two terms. If you've ever been confused by the two, we'll get you up to speed on how these terms differ – and why a misunderstanding can spell disaster for borrowers.
The skinny on pre-qualified
Qualifying first is the first step in the mortgage process and is generally pretty simple. You provide a bank or lender with your overall financial picture, including your debts, income and assets. After evaluating this information, a lender can give you an idea of the mortgage amount you qualify for. Pre-qualification can be done over the phone or online, and there's usually no charge for it. Prequalifying for loans will not include an analysis of your credit report or an in-depth review of your ability to purchase a home.
The initial pre-qualification step allows you to discuss your mortgage goals and needs with your lender. At this point, a lender can explain your various mortgage options and recommend the type that might be best for your situation. (For more information, see Mortgages: How Much Can You Afford?? )
Because it's a quick process – and based only on the information you provide to the lender – your pre-qualified amount isn't sure thing; it's just the amount you could expect to be approved for. Because of this, a pre-qualified buyer does not carry the same weight as a pre-approved buyer who has been more thoroughly investigated. (For more information, see 4 Steps to Getting a Mortgage .)
The Skinny on Pre-Approved
Pre-approval is the next step, and it is usually much more involved. You will fill out an official mortgage application (and usually pay an application fee) and then provide the lender with the necessary documentation to perform a comprehensive check of your financial background and current credit score. (As a rule, at this stage you will not have found a house, so a reference to "property" in the application is left blank). From this the lender can explain to you the specific mortgage amount for which you are approved. You'll also have a better idea of the interest rate you'll pay on the loan, and in some cases you can lock in a specific interest rate.
With pre-approval, you get a conditional commitment in writing for an exact loan amount so you can look for a home at or below that price level. Obviously, this puts you at an advantage when dealing with a potential seller, as he or she knows you are one step closer to an actual mortgage.
The other advantage of the two steps – pre-qualification and pre-approval – is that you know in advance how much you can afford before you start looking for a home. This way you don't waste time guessing or looking at properties beyond your means. If you're pre-approved for a mortgage, you can also move quickly once you find the perfect place. If you make an offer, there is no need to obtain financing, which can save you valuable time. In a competitive market, the seller knows your offer is serious – and you could avoid losing the home to another potential buyer who has already arranged financing.
Once you find the right home for you, fill in the appropriate details and your pre-approval becomes a complete application.
Committed
The final step in the process is what is called a "loan commitment," which is only issued by a bank if it has approved you, the borrower, and the home in question. This means the home should be priced at or above the asking price. The bank may also ask for more information if the appraiser turns up something they believe should be investigated (d. H. Structural issues, accessibility issues, outstanding liens, or ongoing legal proceedings). Your income and credit profile are rechecked to make sure nothing has changed since you were originally approved. (For more information, see Understanding your Mortgage .)
A loan commitment letter is only issued when the bank is sure to lend. So the commitment date of your purchase agreement should be closer to closing than the date of your offer (The seller may ask to see this letter once the date has passed, so watch out for anyone trying to put an early commitment date on your contract).
Last line
Be warned. Pre-approved and pre-qualified are not the same thing. Do not assume that the bank will provide your loan until it is approved in advance. The mistake could cost you your new home, so before you meet with the banks, do your homework by getting pre-approved. Another important way to prepare for getting a mortgage is researching interest rates with a tool like a mortgage calculator.
This could help you save thousands of dollars in interest over the life of your mortgage and gives you a little background when you meet with banks. Remember, the future belongs to those who prepare for it.