It seems like I’ve been asked to explain the difference between a pre-approval letter vs. a pre-qualification letter a lot lately… and with this HOT market where there are multiple offers on just about every listing, it’s a good idea to know what separates the two:
Potential buyer makes an inquiry about how much they can afford to spend on a home mortgage; this is often done online or over the phone (verbally).
Lender gathers the buyer’s information and calculates how much they can borrow based on what the buyer says to be true and complete.
Buyer has typically NOT filled out an actual application for the loan amount.
Lender has NOT reviewed the Prospective Buyer’s credit score, but is just relying on what they say it is.
Lender has NOT pulled the Buyer’s credit report for review.
Buyer has NOT provided the Lender in writing with their income amount, debts, assets or available cash for down payment and payment of any closing costs.
Prospective buyer becomes a Prospective Applicant, as they would have filled out and signed an application for the loan with the Lender. Often there is an application fee as well, so only serious buyers take this initial step with a Lender.
Lender verifies all the Applicant's information in writing; including income, debts, assets, and cash available as well as pulls and reviews their credit report and credit score.
After loan amount is determined, the only possible obstacle is the home appraisal; if the home in question doesn’t appraise, then the buyer is not obligated to buy it.
So, there you have it… basically a pre-qualification letter can be obtained by anyone, as it is simply based on what the potential buyer SAYS, not on facts that are verified in writing by a Lender after they receive a signed application for a loan. Therefore, anyone looking to purchase a home should FIRST contact a Lender to see what loan amount they are approved for; this way, when making an offer on a hot property that has multiple offers, the approved buyer can check the box that says, “This contract is not subject to Buyer obtaining Buyer Approval” on page 2, paragraph B.1. on the TAR Third Party Financing Addendum (see below) with confidence! The only (possible) better offer would be a cash offer… which of course needs to include a “proof of funds” from the buyer as well.
Submitting an offer on a home without ever setting foot inside is not new… and now with the COVID-19 Pandemic, it has become more common place for buyers who simply don't want to take any risks. But is this a smart thing to do?