Home Buying Buying a House? Why You Need a Mortgage Pre-Approval First

by Tara Mastroeni | May 27, 2020

When thinking about buying a home, one of the smartest things you can do is to take the time to get your finances in order — even before you start looking at real estate.

Along with important steps like saving up for a down payment and strengthening your credit score, part of that process involves getting a mortgage pre-approval from a lender. In fact, applying for a pre-approval is considered by many to be among the first big milestones toward purchasing a home of your own.

As someone who recently purchased her first house, I can tell you that getting a pre-approval gave me the sense of direction that I needed when I was first starting my home search. However, beyond that, it also helped to give me a bit of an edge when it was time to actually submit purchase offers.

With that in mind, here is a closer look at what a pre-approval is, why you should seriously consider applying for one before putting in any offers, and how to get one of your own.

What is a mortgage pre-approval?

At its core, a pre-approval letter is a document from a lender (a bank or financial company that lends money to borrowers when purchasing a home) stating how much money it is willing to lend to you to help pay for your home purchase.

“It’s similar to how a landscaper or a general contractor might come out to give you a free estimate on their work,” says Dustin Fox, a real estate agent with Pearson Fox Realty in Ashburn, VA. “It’s not a total guarantee of the price” — meaning that a pre-approval is not a hard-and-fast guarantee that you'll be granted a loan. For that, you'll need to go through the full underwriting process — “but it’s enough to give you a ballpark on how much you can expect to spend,” says Fox.

In order to tell you how much you can afford to spend on a home, the lender will take a close look at the specifics of your financial situation — such as your income, assets, debt and credit history — to come up with what it considers the maximum loan amount for which you qualify.

Couple moving into apartment

Mortgage pre-approval vs. pre-qualification: What’s the difference?

That said, it’s important to understand that a pre-approval is not the same as a pre-qualification, another type of document a lender may provide. While the two names might sound similar, in reality, they are very different.

With a pre-qualification letter, the number you’re given is based on your own estimates of your financial capabilities. However, with a pre-approval, your financials are actually vetted by the lender before you’re given a result. Since the pre-approval is based on a review of actual hard numbers, it carries more weight in a real estate transaction.

During my recent home purchase, I used both documents, each for its own purpose.

First, I got pre-qualified when I set my goal of becoming a homeowner and started to save up money for the down payment. It gave me a target number for how much money I needed to save ultimately. Then, when I was actually ready to start shopping for homes, I talked to a lender and got pre-approved for a home loan. That helped me know for sure how much I could afford to spend on a home.

Why is a pre-approval important?

Firstly, gaining a realistic idea of how much you can afford to spend on a home is one of the biggest benefits of getting a pre-approval early on in the home-buying process. Secondly, it's valuable to have a pre-approval on-hand because you’re then able to prove to a seller that you’re financially capable of purchasing the home once you’re ready to submit an offer.

“These days, you almost never see an offer submitted without a pre-approval attached. If a seller is going to accept the offer and take their home off the market, they want proof that the loan will go through," Fox explains.

According to Fox, the dollar value of the loan you’ve been pre-approved for is also an important part of the negotiation process. “When we place an offer [on the buyer's behalf], we often call the lender and have them send over an updated pre-approval that is close to the offer price,” he advises. “If the home is listed for $400,000 and you’re offering $390,000, you don’t want the seller to know that you could have gone much higher, but you chose not to.” 

If a seller is going to accept the offer and take their home off the market, they want proof that the loan will go through.
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What you'll need to get a pre-approval

By now, you should have a good sense of what a pre-approval letter is and how having one can benefit you in a real estate transaction. The next step is to learn how to go about getting one of your own.

For that, you need to provide some financial documentation to a lender. Many lenders ask for the following:

  • Most recent pay stub with year-to-date income listed
  • Two years of W-2s to show employment history
  • Two months of statements from any bank accounts or assets like a 401(k)
  • Any debt records like student loans or a car loan
  • ID and Social Security number for a credit check

That said, what you’re asked to provide may vary depending on your unique financial circumstances. In order to receive my pre-approval, for example, I had to give tax returns. I wasn’t able to provide W-2s because I am self-employed, so I was instead asked to provide a few years' worth of tax returns as proof of my work history.

The pre-approval process

Once you give your lender all the financial documentation, the process of generating a pre-approval letter can take anywhere from a few hours to a few business days to complete.

During that time, the lender evaluates how much income you have coming in each month versus how much you have going out in debt payments to determine whether you can likely handle taking on more debt in the form of a mortgage. And by checking your credit history, a lender can see how proficient you are at paying back your current debts.

If one lender isn’t willing to lend you the amount you seek, you can consider shopping around; consult additional institutions to try and receive a different result. Many lenders are also willing to counsel you on what you can do to improve your financial picture, after which you can resubmit.

Happy family having fun in their home on moving day

Since it may take some time to get the result you’re hoping for, the earlier you can get started on the pre-approval process, the better. However, once you have it in hand, you’ll be on your way to achieving your dream of becoming a homeowner.

Tara Mastroeni

is a freelance real estate and personal finance writer. Her work has been published on sites like Forbes and Business Insider. You can find her at TMRealEstateWriter.com or on Twitter @TaraMastroeni.