Preapproval vs. Prequalification: Which One is Better?

A preapproval letters is a more involved process than a prequalification letter. See why sellers prefer the preapproval when they're deciding between buyers.

Preapproval vs. Prequalification: Which One is Better? Close
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Preapproval vs. Prequalification: Which One is Better?

Posted by Gary Ashton on Tuesday, October 8th, 2019 at 10:34am.

Should I Get a Preapproval or a Prequalification Letter?Unless a Nolensville homebuyer is prepared to put down the total cost of the home in cash, they'll need to visit a lender to see how much they can borrow. While traditional banks may be the more well-known lenders, buyers can apply for credit at any number of institutions (e.g., credit unions, online banks, brokerage firms, etc.). See how the lending process works, and how preapproval and prequalification letters can help or hurt the search.

There are distinct differences between the two types of letters a buyer can receive from a lender. A home seller may not know the difference prior to putting their home on their market, but their real estate agent will almost certainly give them an education on the process.

For informational purposes only. Always consult with a financial advisor before proceeding with any real estate transaction.

Prequalification Letters

A prequalification letter is one where a customer gives the lender some very basic information about their finances, and the lender gives the buyer an idea of how much money they can receive from the lender. The lender may look up some preliminary data on the buyer, but they're more likely to run the numbers based on the customer's assessments of their savings, debt, and assets. Buyers may be able to secure a prequalification letter online in as little as one day.

Preapproval Letters

A preapproval letter is a more formal commitment after the lender has run a more in-depth background check on the buyer. Buyers will need to submit a https://www.nashvillerealestate.com/blog/what-is-a-conventional-mortgage.html and give the lender the information they need to run a credit and financial check. This typically includes W-2s, paystubs, tax returns, and a benefits letter (if applicable).

Not only will buyers learn how much they can borrow, but they'll also receive information about the interest rates they qualify for. Lenders may even lock a buyer in at a certain rate, allowing buyers to better estimate their monthly payments for each house.

Preapproval letters may be provided free of charge by the lender, but others will charge up to a few hundred dollars for the privilege. This is because lenders will put in a lot of time and effort to arrive at their conclusions. There is no need for a prequalification letter if the buyer already knows they're ready to purchase a home. If they have sufficient savings and strong credit, a preapproval is more efficient because it skips an unnecessary step.

How to Work the Process

Buyers should know how they can use this time to get more from the borrowing process:

  • Ask questions: During the prequalification process, it's a good time to discuss expectations with the lender. The lender will give the buyer a better idea of which options will best fit their income and lifestyle.
  • Aim for preapproval: Once a buyer knows they can hit their pricing bracket with a prequalification letter, it's typically better to go straight to the preapproval—especially if buying in a seller's market. A prequalification letter is good, but a preapproval letter will really help a seller take the buyer seriously.
  • Financing future: There is no guarantee for financing regardless of the type of letter a buyer receives. A preapproval letter makes it much more likely the loan will go through, but there are a number of reasons that the lender may rescind their offer.

Looking Ahead

Lenders will put stipulations on their preapproval letter, so it helps to read the fine print. Much of their conditions have to do with the ownership of the property. So, if the lender finds out there's a lien on the home or there's a dispute over the property grounds with the neighbor, they may refuse to follow through on the financing unless the issue is resolved. However, there are other reasons that have to do with the buyer's actions as well.

For example, if the buyer chooses to borrow the money for closing costs, this can push the buyer into a different bracket. If the new bracket exceeds the amount of money a lender was willing to give, it's possible for the sale to be canceled entirely.

If a buyer's income changes drastically between the time of their preapproval application and the time of closing, this can also affect the lender's decision. Perhaps the buyer lost their job during the months of their home search. It's even possible for the lender to back out after closing, although this is a rare event and would be considered a breach of contract if the buyer is not in default.

A preapproval letter is the gold standard for any home buyer, even if it's not a guarantee that the buyer will be able to afford the home. It can help a buyer's name shoot to the top of the list if the seller is considering multiple offers. A good real estate agent can help buyers use their solid financial standing to secure the home of their dreams.

For informational purposes only. Always consult with a financial advisor before proceeding with any real estate transaction.

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