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Are You Pre-Qualified or Pre-Approved? Knowing the Difference Can Save You a Lot of Time and Money

Jun 1, 2008
Nearly everyone who has ever searched for a mortgage has been asked if they would like to obtain a "pre-qualification" or a "pre-approval." In many cases prospective home buyers are told that they "need" a pre-qualification before they can even make an offer on a home. Typically, this is required by an over-zealous real estate agent. And, unfortunately, that same real estate agent often has no clue whether the submitted pre-approval letter is even worth the piece of paper it's written on.

Here's the problem: the terms "pre-qualification" and "pre-approval" are used interchangeably. This is a big mistake that borrowers, sellers, real estate agents, and even many mortgage originators make.

A pre-qualification is a very basic assessment of a potential borrower's ability to qualify for a mortgage. A good loan officer can "pre-qualify" people in about five minutes over the phone by asking a few simple questions about income, credit, assets and monthly debts.

That's basically it. With this information, assuming the borrower did not lie (either intentionally or unintentionally), you can be pre-qualified for "x" amount of a loan. This is a very basic form of qualification.

However, in the pre-qualification scenario, the loan officer does not conduct a credit check, examine any income or savings documents, or do any of the other things necessary to fully approve someone. A pre-qualification is, therefore, a very basic and unreliable way of assessing someone's true qualifications.

In fact, if someone tells a savvy seller that the potential buyer has just been pre-qualified to purchase the home, that seller will usually ignore the pre-qualification until a real approval has been acquired. Savvy sellers understand the real value of a pre-qualification: zero!

Many potential borrowers and their real estate agents are deceived into thinking they are fully approved because some loan officer has told them they are pre-qualified. Most of the time, this is an innocent mistake, not a deception being perpetrated. But, you should make no mistake about it - a pre-qualification is not a pre-approval.

When you are serious about buying or building a new home (and only when you are serious) you should make the effort to obtain a full pre-approval for your loan. This means finding a competent mortgage professional, who you trust, and providing all of the necessary information he or she needs to determine your eligibility.

For an accurate pre-approval, you should provide your loan officer the following information:

* your social security number for a credit check,
* your pay stubs, W-2's and possibly full tax returns for income documentation,
* bank and asset statements for verification of liquid and retirement savings,
* and any other information that is requested to obtain a full picture of your credit worthiness.

A pre-approval should essentially be a full approval, prior to final underwriting - if you have provided complete and accurate information.

A word of caution: when beginning the loan shopping process, DO NOT give out your social security number to anyone. Only do this once you are ready to proceed and have made your decision on whom you will work with.

DO NOT let a loan officer bully you into giving out this information for any reason. If they cannot discuss their programs without your social security number, you should immediately look elsewhere - you are not dealing with a competent professional.

It is not necessary to run your credit report in the early stages of shopping as long as you know your credit scores, monthly income and debts. You need to know your credit scores and should run a quality credit report on yourself prior to beginning shopping.

If you provide accurate information to your lender, you can be assured that the pre-approval is valid. However, please remember that this still does not guarantee you will get the loan to buy or build the house you want. Why? Because at this early stage you have only been approved as a borrower - not the borrower for that specific property. At this stage, no information is available about the property or home to be built.

If the appraisal on the home is not satisfactory or the title search shows there are existing liens on the property, it does not matter how qualified you are as a borrower. Your loan will not gain final approval unless both you and the property are acceptable. Many people fail to understand this distinction. A pre-approval is certainly better than a pre-qualification, but it still does not guarantee final underwriting approval.

With construction loans, understanding the pre-approval process is even more important than when buying an existing home. When buying an existing home, an acceptable appraisal is usually a foregone conclusion since the home is already there and being sold on the open market. But, with new construction, the appraisal and the construction budget become integral parts of your overall loan application. To best protect yourself, you need to fully understand the appraisal process and how it relates to new construction. Your loan officer should be able to assist you and answer any questions. With this knowledge you will be able to better estimate the future value of the home you wish to build, and move through the pre-approval process with ease.

The best course you can take as a borrower is to a) understand your own qualifications, including accurately knowing your credit score, b) do verbal pre-qualifications with a narrowed-down list of potential lenders (tell them your credit scores but do not allow them to run a credit report), and c) when ready, choose one professional who offers the best program for your needs. Only then should you do a full pre-approval.

Once you do a full pre-approval with a loan professional, you should be fully committed to working with that person. Choose the right loan program and the right professional. And, your loan experience will be a smooth and pleasant one.
About the Author
Chris Esposito provides owner-builder construction financing nationwide through his Owner Builder 101 program. Visit www.OwnerBuilder101.com to get all the information you need to be a successful owner-builder, saving tens of thousands on your next home. Or call Owner Builder 101 at (877) 876-3688.
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