The Essential Guide to Mortgage Pre-Approval

If you’re serious about buying a new home, obtaining a pre-approved mortgage should be a top priority. With a mortgage pre-approval letter, you’ll be in a much stronger position to budget for your ideal home and commit to any offer you make.

But how do you go about becoming pre-approved? What do you need, and how will it help you? Read on to discover all you need to know about how you can get pre-approved and why it’s better that you do.

What Are Pre-Approved Mortgages?

A pre-approved mortgage is basically an agreement between you and your lender. It states that they are willing to provide you with a mortgage should you find a home you want to buy. The terms of this offer are clear and will typically detail:

• How much they are willing to lend you
• The probable interest rate
• The conditions they have stipulated

Your lender will arrive at these conditions after thoroughly inspecting your financial situation, as we’ll see below.

Pre-Approval vs. Pre-Qualification

Another term you might have heard is mortgage pre-qualification. Pre-qualification is a much less rigorous process that gives you an idea of how much a lender is willing to lend you, but with no strings attached.

However, there’s no guarantee that the lender will agree to the loan if you proceed to buy a house. They will need to take a more thorough look at your finances before deciding. Meanwhile, if you’re pre-approved by a lender, they’ll make you an offer that guarantees you’ll be able to take out a loan with them.

Pre-qualification helps give you a rough idea of how much house you can afford. Pre-approval, on the other hand, is worth getting when you know you’re serious about buying one.

Pre-Approval vs. Conditional Approval

Conditional loan approval is the next step up from a pre-approved loan. It differs in that a loan underwriter scrutinizes your documentation and credit history more thoroughly than a loan officer.

The underwriter will take a much deeper look at everything and ensure that what was stated to the loan officer matches their documentation review. If it does, the underwriter will approve the loan but will set several conditions.

Getting Pre-Approved for a Mortgage: How It’s Done

To become pre-approved for a mortgage, you’ll need to meet with the lender of your choice. Together, you’ll discuss your goals before you’re required to fill out a mortgage application form. In addition to the application form, you’ll need to provide your lender with the following.

1. Proof of Income

Your lender will typically require you to provide at least three months of recent pay slips. U.S. borrowers will also need to provide two years’ worth of W-2 statements, while borrowers in Canada should provide notices of assessment from the Canada Revenue Agency. This allows the lender to see what your regular income is and proves that you’re currently employed or self-employed.

In some cases, lenders may contact your place of work to verify your employment. If you’ve recently started a new job at the time of your application, it’s important to provide contact details for your former workplace, too.

2. Proof of Assets

By providing bank statements, your lender will be able to see that you have the funds for a down payment and closing costs in savings. You’ll also need to show you have reserves to cover unexpected expenses and emergencies.

3. Credit Score

Your lender will also want to take a look at your credit reportWhat is a credit report? While a credit score is a three-digit number that lenders... More. They’ll use the results to determine the interest rate you’ll be required to pay. Generally, any score higher than 740 will qualify for the best rates.

4. Additional Paperwork

Finally, your lender will require an up-to-date form of ID, such as a driving license. In the U.S., you’ll also need to provide your social security number, although Canadian lenders don’t require applicants to provide their social insurance number. Finally, you’ll need to sign a form that enables the lender to carry out a credit check.

How Long Does Mortgage Pre-approval Take?

It typically takes between 3 and 10 days for the lender to approve or reject your application. If you’ve been accepted, they’ll inform you of the following:

• How much you qualify for
• The probable interest rate
• An estimate of your future mortgage payments
• Various other features and conditions of your loan, such as prepayment penalties

If your application is successful, your pre-approval letter can then be used when you make an offer on a house.

How Long Is a Mortgage Pre-approval Good For?

A pre-approved mortgage offer is valid for anywhere between 45 and 90 days. If it expires, you’ll need to reapply and start the process again. This should be avoided if possible, as each hard check on your credit report can see your score drop.

What Can Affect Your Pre-Approval?

Now that you know how to get pre-approved for a mortgage, it’s good to know what factors can determine how much you qualify for. With this knowledge, you can prepare in advance to ensure you get the best deal. In general, lenders will scrutinize the following areas of your overall financial situation:

1. Debt-to-Income Ratio (DTI)

Lenders will analyze your monthly debt repayments compared to your monthly income. A DTI ratio under 43% is desirable, but the lower, the better. This lets the lender know you won’t struggle to pay your mortgage on top of your other debts.

For the best rates, it’s best to pay off as many debts as possible to boost your DTI ratio before you apply for a mortgage.

2. Credit Score

If you can boast a high credit score when you apply for a pre-approved mortgage, it will always work in your favor. Lenders will look at factors such as:

• Whether you pay your bills on time or not
• The quantity and types of credit lines you have open
• Your credit history
• An analysis of your credit utilization – how much credit you actively use

A consistent credit utilization rate of 30% or lower is ideal and can really boost your score. If, however, you have a low credit score, you’ll either need to wait until you’ve increased your score or consider non-conventional loan options.

The Benefits of a Pre-Approved Mortgage

So, do you really need to get pre-approved for a mortgage? After all, it is entirely possible to find your dream home first, put in an offer, and then apply for a loan. However, that’s a risky move that can soon come back to haunt you.

1. You Can Create a More Accurate Budget

Becoming pre-approved for a mortgage puts you in control from the start and can prevent disappointment and even financial disaster. With it, you’ll know exactly how much you can realistically afford and how much the lender will cover you for. This enables you to limit your search to only those houses you can afford comfortably.

All too often, people find their dream home only to discover it’s outside their budget. In the worst-case scenario, some have even made offers on properties before applying for a mortgage, only to find they cannot actually afford them — which can potentially result in legal action and enormous financial loss.

2. Sellers Prefer Pre-approved Buyers

Armed with a pre-approval letter, you show the seller you’re serious about buying their house and that you have the financial means to do so. Not only does this speed the whole process up, but it also enables you to make an offer confidently. This can often put you at the front of the queue — a key advantage in a hot market.

It’s well worth obtaining pre-approval as soon as you know you’re serious about buying a new home. If time allows, do all you can to improve your credit score and DTI ratio before submitting an application to ensure you get the best deal possible.

For an overview of the real estate market in popular areas across Canada and the U.S., visit the links below:

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