What Does it Mean to Prequalify for a Loan?

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A pre-qualification helps you know how much home you can afford.
A pre-qualification helps you know how much home you can afford. (Image: mortgage image by hans slegers from Fotolia.com)

It's very disappointing for someone to find the perfect home and discover he cannot qualify for a mortgage for it. Pre-qualification by a reputable lender should be the first step in the house-hunting process because it lets you know how much you can reasonably afford. The terms "pre-qualified" and "pre-approved" are used in real estate, so it is important to understand just what it means to pre-qualify for a loan and how it differs from a pre-approval.

Process

When a lender pre-qualifies you, he asks about your income, job, monthly debts, how much money you are putting down, what area you plan to buy in and any goals you may have regarding your mortgage, such as loan term. He may also pull your credit file, though not all lenders do this. Using the information you provide, he makes a determination on which loan program best suits you. Based on your financial status and the current interest rates for the chosen loan program, he will tell you about how much your monthly payment would be and what loan amount you can qualify for. This service is usually free.

Limits

There are limits to a pre-qualification. Since there is usually no verification of any of the information given to the lender for the pre-qualification, the actual figures may be different, or conditions may exist that disqualify you from the program the quote is based on. For example, you may have included overtime in your monthly income figure, but your overtime does not qualify under the loan program guidelines, so you cannot use it and must rely on your lower base pay amount. Your job or your spouse’s job may not qualify because you switched fields recently or have a job history that does not meet program guidelines.

Credit

Many reputable lenders pull a credit report in the beginning because often issues appear on the credit report that disqualify a borrower. Because there is a fee for pulling a credit report, some lenders do not want to spend that money on a borrower who has not committed to working with them, but a reputable lender will pull your credit file so that you do not undergo the disappointment of shopping for a home you cannot get a mortgage for. You may have credit issues that disqualify you from a mortgage. It's also possible a debt will show up on your credit report that you have forgotten about that raises your monthly debt to an unacceptable level for the home you want.

Pre-approval

Pre-qualifications are not a guarantee that you qualify for a mortgage — you must submit documentation that supports the pre-qualification information for examination before a lender can make any sort of guarantee. When you submit your pay stubs, W-2s, bank statements and other paperwork, and the lender has seen your credit report and score, then the lender can complete a pre-approval for a particular loan amount because she has the verified information she needs to make a preliminary commitment. The loan will still have to be processed and underwritten, and a home chosen and appraised, before you can get final loan approval.

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