What is a mortgage pre-approval?

The last thing you want is to fall in love with a house that ends up being out of your budget — or even worse, to seal the deal on a house you can’t comfortably afford. Fortunately, you can avoid both of these situations with a mortgage pre-approval.

Mortgage pre-approval is a process in which you submit financial documentation to a mortgage lender, like a bank or other financial institution. In return, you learn how much they’re willing to lend you and at what interest rate.

A lot of online calculators claim they can tell you how much you can afford, but for most homebuyers, what they end up qualifying for is often less (or different) than the amount provided by the calculator. While not a guarantee of a loan, a pre-approval letter from an actual mortgage lender gives you a much more accurate idea of your home budget. That way you can feel confident about your down payment and properly plan for closing costs (which are often 2–5% of your home’s purchase price).

When you make an offer on a house, a pre-approval letter demonstrates to the seller you’re serious about the purchase and that you’re likely to be approved for a loan — and both of these qualities make you a much more attractive buyer.

What’s the difference between pre-approval and pre-qualification?

The two processes may vary among lenders, but it’s important to be aware of the differences between mortgage pre-qualification versus mortgage pre-approval. Even though the terms are often used interchangeably, loan pre-qualification is typically a less formal version of the pre-approval process.

Going through the mortgage pre-qualification process can be a helpful indicator to know how much you can afford based on your income. It can also let you know if you should work on improving your credit score before you apply for a loan. But because pre-qualification relies on self-reported information and doesn’t typically require a hard inquiry on your credit score, it might not carry as much weight with sellers.

Pre-qualification: informal/self-reported, often done quickly online or over the phone, no hard inquiry, provides a general idea of how much home you can afford, home sellers typically don't care to see it VS. pre-approval: requires paperwork, can take a day to a couple of weeks, hard inquiry on your credit history, spells out exactly how much a lender is willing to loan you, gives sellers the confidence that you're serious about buying

What’s the pre-approval process like?

Typically, the pre-approval process is more thorough and formal. It may also take longer to complete than mortgage pre-qualification. Different lenders may have different requirements, but you should be prepared to present certain paperwork, including pay stubs, W2s, residential history, tax returns, and bank statements from the past two years. You’ll also likely be required to have a form of ID, like your driver’s license, as well as your Social Security number.

Documents and information needed for mortgage pre-approval: past two years of tax returns and W-2 forms (tax documents), 60 days worth of bank statements, two months of statements for IRAs or investment accounts, last quarterly statement for 401(k)s (proof of assets), two most recent pay stubs or self-employment documentation (proof of income), student loans, credit card debt, etc (debt/credit information), driver's license, Social Security number (other documentation)

Lenders will also conduct a hard inquiry to conduct a check on your credit history, which can impact your credit score. But keep in mind, you can still explore multiple options from different banks. That’s because even if several lenders request credit report inquiries all within a relatively short time span (usually 30 to 45 days), they’ll only count as a single inquiry.

All of this information helps your lender understand your financial background and is used to help them know if you have enough income to pay back your mortgage loan. A close look at your debt-to-income ratio, or total monthly expenses divided by gross monthly income, will also give you and your lender a better understanding of how much you can afford to pay each month.

How to Use Your Pre-approval Letter

A pre-approval letter can be one of the most accurate ways to understand your house-hunting budget without going through the entire mortgage underwriting process.

Once you’re ready to make offers, you can include your pre-approval letter in your bid to sellers. Especially in competitive housing markets where homes may only be for sale for a matter of days, being pre-approved for a mortgage can help you stand out among other buyers.

You can sometimes ask your lender for a custom pre-approval letter for each house you’re bidding on. For example, you may not want to reveal to a seller that you can afford more than what you’re offering. So, you can get a pre-approval letter for less than your original pre-approved amount.

Depending on the lender, your mortgage pre-approval letter will typically last 60 to 90 days because of industry regulations. If your bank requires a hard inquiry, you might want to wait until you’re close to making an offer to avoid your letter expiring and having to go through the process again.

If you decide to get pre-qualified or pre-approved by a lender that only requires a soft credit report, this time frame isn’t as constricting — you can easily go through the process again (without hurting your credit score) if you run out of time.

When you’re ready to buy a home, make sure your wallet is, too. By getting pre-approved, you can have a solid foundational knowledge of how much you can afford, from your down payment to your monthly payments. And then you’ll be one step closer to living in the home of your dreams.

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