Before you start looking to buy a home, it’s important to get pre-approved for a mortgage first. This step can give you a competitive edge and demonstrate to sellers that you’re serious.
Still, many buyers confuse pre-approval with pre-qualification. Knowing the distinction can help you start your homebuying journey with confidence.
What's the difference between pre-approval and pre-qualification?
Mortgage pre-qualification is a helpful starting point if you’re unsure about your financial readiness to buy a home. This provides a potential borrower with a rough estimate of how much they can borrow for a home loan. It’s all based on the information you provided the lender about your credit, income and assets. Some lenders will do a soft credit check during this process. This could take a few minutes to complete, and a decision can often be made quickly.
If pre-qualification looks promising, the next step is pre-approval. This involves a more thorough review of your financials. Lenders typically review three main things: income, assets and credit. Lenders will do a credit check.
Documents needed for pre-approval:
- Photo ID
- Pay stubs, W-2s and tax returns (typically last two years)
- Recent bank and investment statements
- Credit report (A credit score of 620 is typically the minimum needed to qualify for a mortgage, but a higher score can help you secure better interest rates)
- Additional documents as needed (gift letters, rent payment records, divorce papers, proof of other income)
If you’re confident in your financial situation and ready to begin house hunting, you can skip pre-qualification and move directly to pre-approval. For self-employed workers, obtaining pre-approval for a mortgage typically requires more extensive documentation and a more thorough financial review than for traditional W-2 employees.
Lenders usually require at least two years of personal and business tax returns, recent bank statements, and proof of consistent income. The reason behind this: "A borrower might come into the process and think that they make a lot more than an underwriter’s going to say they make,” Brandon Warren, loan officer at GoRascal, the #1 mortgage brokerage in the state of New York by both loan officer count and loan volume, told Homes.com in an interview.
For example, large business deductions can lower your reported income, which may reduce the amount you qualify for, even if your actual cash flow is higher. You may also need to provide profit-and-loss statements, 1099 forms, business licenses or letters from your accountant.
The underwriting process is usually more detailed and may take longer, so Warren’s advice is clear: “It might take some legwork to get some of the documentation they want to see. There are other things that go into it. But having trust in who you’re working with is far and away the most important thing."
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What's included in a mortgage pre-approval letter?
Once you are approved, you’ll receive a pre-approval letter that includes the following information:
- Lender's name: The name of the financial institution issuing the pre-approval.
- Borrower's name: Your name as the prospective homebuyer.
- Address: The address of the home you’re considering, or sometimes just the area where you plan to buy. This can be subject to change.
- Purchase price: The price of the home you’re looking to buy.
- Maximum loan amount: The maximum amount you're pre-approved to borrow.
- Interest rate: The estimated interest rate for your loan.
- Loan term: The length of your loan (for example, 15 or 30 years).
- Loan type: The kind of loan you’re pre-approved for, such as conventional, a Federal Housing Administration or FHA loan, or a Veterans Affairs or VA loan.
- Conventional: Not backed by the government; typically requires higher credit and down payment.
- FHA: Backed by the Federal Housing Administration; designed for buyers with lower credit or smaller down payments.
- VA: Backed by the Department of Veterans Affairs; available to eligible veterans and service members, often with no down payment.
- Seller credits: Any credits from the seller that will be applied to your closing costs.
- Deposit: This is often called “earnest money” and is a sum of money you put down to show the seller you’re serious about buying the home. It’s typically held in an escrow account and later applied to your down payment or closing costs.
However, some lenders might not tell you the highest amount you can borrow, said Baret Kechian, a branch manager at loanDepot. The goal is to help buyers look at properties within a realistic budget, not just a theoretical maximum. This can help the borrower and the real estate agent find a home that best suits the buyer’s financial situation, Kechian said.
Keep in mind that when you’re ready to make an offer, the seller or agent may want to see your pre-approval letter to ensure you’re financially qualified. It’s essential to note that mortgage pre-approval isn’t a binding commitment; it may be worthwhile to shop around and obtain a few competitive options.
Since each lender will pull your credit score, be mindful of how many you consult. Too many so-called hard inquiries in a short period can be a red flag to creditors and may lower your overall score.
Last, pre-approved letters include an expiration date, usually between 60 and 90 days. If you haven’t found a home, you could ask for a renewal to ensure your pre-approval remains valid. However, remember that neither pre-approval nor pre-qualification guarantees a home loan offer.