Buying a home might be the most daunting challenge you ever endure. From saving for a down payment to finding the perfect place, home-buying can be long and grueling. One of the first steps to help you sort all of that out is getting preapproved.
Getting preapproved for a mortgage is similar to getting approved — you fill out a mortgage application and a lender does a hard credit check. You’ll get back a loan estimate, which will tell you how much home you can afford. With this estimate, you’ll know how much you should spend on the purchase of your home.
Why should I get preapproved?
It’s easy to browse the best neighborhoods for the nicest homes, but you’re wasting your time if you can’t afford it. The selling price of the home isn’t the total cost of the home.
Getting preapproved for a $300,000 loan means you should look for a home that’s less than that. Other costs, like insurance and property taxes, should be kept in mind since they’re factored into the total cost.
Knowing how much home you can afford is your best way of living within your means. You won’t be able to buy a home that’s out of your budget, which means you have a greater chance of making monthly payments on time. If you can, try putting extra cash toward an emergency fund so you can make any necessary improvements once you move into your home.
Preapproval versus prequalification
Prequalification and preapproval are not the same thing, even if they are used interchangeably. A mortgage lender might tell you how much you prequalify for if you give a quick overview of your finances. While helpful, prequalification isn’t concrete enough to realtors or home sellers.
A preapproval shows lenders what you qualify for based on your financial history and income. A preapproval uses your paper trail to determine how much home you can afford. It means you complete a mortgage application and have a hard credit check done to determine your creditworthiness. Your income, debt, and assets are reviewed and verified.
A preapproval proves to realtors that when you walk into a home, you are so serious about buying it because a lender has showcased your worthiness. Your paper trail holds much more clout than your word.
When should I get preapproved?
The best time to get preapproved for a home is after you’ve thoroughly reviewed your credit score to make sure it’s in top shape. Preapprovals are typically valid from 60 to 90 days because your credit report could change in that time. Although, if your credit score has increased in that time, you might get preapproved for a lower interest rate.
It’s not a bad thing to get preapproved more than once. Getting an idea of how to get your finances in order can be helpful to securing a low interest rate and a home you can afford. Before you start looking at houses, try getting preapproved for a mortgage first.
While a hard credit check might dip your credit score, it’s only temporary. To give yourself peace of mind, get your first preapproval anywhere from six months to a year before you plan to buy a home. This should give you enough time to clean up your credit report and build a solid down payment.
How to get preapproved for a mortgage
The best way to get preapproved is to have your documents preorganized. Here are some documents you’ll need to have on-hand:
- Recent pay stubs
- W-2s from the last two years
- Last two federal income tax returns
- Bank statements (from all accounts in your name)
- Credit report
- Driver’s license or passport
Self-employed borrowers might be asked to provide additional information to prove consistent income. You might need to show a business license, business bank statements, and tax returns for your company.
How preapproval works
Through an application process, lenders will look at your credit score, credit history, and debt-to-income ratio — or how much of your monthly income goes towards paying your current debts.
Lenders typically pull from the three main credit bureaus: Experian, Equifax, and TransUnion. A low credit utilization (below 30 percent), on-time bill payments, and how much different types of credit you have all come into play.
Your loan-to-value ratio is also considered. This is where the loan is divided by the home’s value. Your down payment helps here — the higher your down payment, the lower your loan-to-value ratio. To lower your loan-to-value ratio, up your down payment or reconsider the cost of the house you want to buy.
Employment and income history is a big part of your approval as well. Proving you have steady income and a solid job is important to making sure you will continue to pay your loan back on time.
How to ace your preapproval
When you’re starting out in your home-buying journey, there’s a lot to go over. Here are a few things to keep in mind as you’re planning your purchase.
1. Shop with different lenders. It’s OK to go through the preapproval process with a few mortgage lenders, as long as it’s within a month’s timespan. Because each preapproval requires a hard credit check, your score will be impacted. If you handle your preapprovals around the same time, it will count as one hard inquiry.
3. Don’t spend a lot after your preapproval. Whether you’re doing it for the first go-round or you’re hitting the home stretch, it’s important to keep your spending low. Avoid making any large purchases from when you get preapproved to when you close to keep your debt-to-income ratio consistent.
4. Continue to pay your bills. Staying up-to-date on your regular bills is important to your payment history. Falling behind could mean a big hit to your credit score.
5. One preapproval letter doesn’t mean you’re “approved.” If you’ve shopped around, choose the lender that offers you the friendliest repayment terms and lowest interest rates. Remember that mortgage lenders don’t have to give you a loan if they’ve preapproved you — especially if your credit income and credit history has changed since originally preapproved.