The mortgage process can be complicated and lengthy. Potential homeowners who are preapproved or prequalified for a mortgage often have an advantage to speed up the lending process and beat out other buyers bidding on the same home.
Getting preapproved for a mortgage means you will have leverage negotiating with a seller since the owner knows that you are more likely to have a loan approved. A preaqualification is a step short of a preapproval, but it has own advantages.
As you may have deduced, the terms preapproved and prequalified are not interchangeable. Here’s how each one works.
What prequalified means
Mortgage lenders give homeowners the option to see if they are prequalified, which is only a general indication that you could be approved for a mortgage if you were to apply. It’s typically the first step in the homebuying process and can be completed with a phone call or online application with financial information that you provide.
Mortgage prequalification is less formal and only serves as an estimate of how much you may be able to borrow based on your income and budget, says Greg McBride, CFA, chief financial analyst for Bankrate.
“Because prequalification may not always lead to loan approval, it is important for homebuyers to avoid making any firm plans based on their qualification status,” he says. “If the mortgage lending process were a highway intersection, prequalification would be the yellow traffic light and preapproval would be the green light.”
What preapproved means
When a consumer is preapproved for a mortgage, it means a lender has reviewed his or her credit and has approved the individual for a specific mortgage loan amount, says Bruce McClary, spokesperson for the National Foundation for Credit Counseling, a Washington, D.C.-based non-profit organization.
Preapproval is a more complex process that requires submitting a formal loan application and providing extensive documentation regarding your savings and other debt such as credit cards and student loans. The lender uses this information to determine whether to offer you a loan, and at what maximum amount and interest rate.
“Preapproval carries more weight because it means lenders have actually done more than a cursory review of your credit and your finances, but have instead reviewed your pay stubs, tax returns and bank statements,” says McBride. “A preapproval means you’ve cleared the hurdles necessary to be approved for a mortgage up to a certain dollar amount.”
The final word
Prequalification and preapproval are key steps in obtaining a mortgage. Prequalification is a good way to start since it only gauges your financial situation and gives you a rough idea of how much house you can likely purchase.
Consumers who receive a preapproval will also be given an offer for a loan of a specific amount, helping to jump-start the search for the right home.
“Preapproval gives you a leg up in the homebuying process because the home seller has a greater degree of confidence that you’ll get approved for your mortgage and the sale will go through,” McBride says. “Telling a home seller that you’re prequalified doesn’t tell them very much.”
Either a preapproval or prequalification can serve as a guidepost in the search for the right home by establishing the boundaries for the purchase price, McClary says.
“While it’s up to each prospective homeowner to determine exactly what they can afford within or below that range, having an idea of how much can be borrowed can be a good starting place for arriving at an acceptable price range,” he says. “A preapproval is beneficial for borrowers because it streamlines the rest of the lending process, leaving fewer steps between decision and closing.”
Always shop around before you pick a lender even if you are preapproved or prequalified for a mortgage because rates and terms can vary, and only by shopping multiple lenders can you determine if you’re getting the best deal.