Purchasing a home is probably the most significant investment you’ll ever undertake, and also the home loan. With so much on the line, you’ll want to make sure you understand the home loan process thoroughly before diving in. Getting pre-approved for a mortgage is the critical first step that can determine your homebuying success.
Pre-approval provides concrete proof of your borrowing power to sellers and real estate agents. It shows you’re a serious buyer with the financing ready to make a competitive offer. Going through the pre-approval process also affords the chance to improve your personal finances and home loan terms.
This step-by-step guide breaks down everything you need to know to get approved for the best possible home loan.
Why Home Loan Pre-Approval Matters?
Pre-approval and pre-qualification refer to preliminary loan estimates from a lender before submitting a purchase offer. But there’s an important distinction.
Pre-qualification is quick and doesn’t require documentation. You provide basic financial information and the lender estimates loan eligibility. But since it’s unverified, pre-qualification carries little weight.
Pre-approval involves fully documenting income, assets, debts, and credit for underwriting. This rigorous review results in a near-final loan decision. Pre-approval shows sellers you can obtain financing, making your offer more desirable.
Benefits of pre-approval
- Gain negotiating power over other buyers, especially in competitive markets
- Act quickly on homes without worrying about home loan uncertainty
- Know your exact price range and loan costs before searching
- Lock in an interest rate for your loan term
- Speeds up the purchasing process once you’ve found a home
Types of Home Loan Lenders to Consider
Banks and credit unions are obvious lending sources given their branch accessibility. However online and mortgage-focused lenders have competitive rates and streamlined processes.
Large banks like Chase and Wells Fargo offer financial convenience. However their mortgage rates may be higher, and branches have less flexibility than underwriters. Small community banks and credit unions may provide more personal service.
Top national lenders like Rocket Mortgage or loanDepot feature fast online approvals. Quicken Loans, the largest home lender, blends online ease with top-ranked customer service. Specialty lenders like Veterans United cater to niche borrower needs.
Online marketplaces like LendingTree and Credible let you compare personalized loan offers. Consider lender variety, fees, and rates when choosing where to get pre-approved.
Gather Required Personal and Financial Documentation
Mortgage lenders will need extensive documentation on your employment, income, assets, debts, and credit profile. Having materials organized ahead of time expedites pre-approval.
Employment Info:
- Last 2 years of W2 tax forms
- Pay stubs from the last month
- 2 years of business tax returns if self-employed
Income Verification:
- 2 years of federal tax returns
- Documentation for non-wage income like bonuses, commissions, or rental earnings
Asset Statements:
- Last 2 months of statements for checking, savings, investment, and retirement accounts
Debt Details:
- Account statements for credit cards, auto, student loans, child support, etc
- Bankruptcy discharge papers if applicable
- Foreclosure documents if applicable
Credit Reports:
- No action is needed – the lender will pull the required credit reports
Your debt-to-income ratio, credit history, foreclosures, and bankruptcies will significantly impact approval odds and loan terms. Have explanations and documentation ready for any credit red flags.
Getting Pre-Approved in Five Steps
With documents in hand, you’re ready to undergo pre-approval. Though lenders have variations, the process follows roughly the same path.
Step 1) Choose a Loan Type
Different loans offer unique benefits, so consider your needs before applying. Conventional loans require at least 5% down and have flexible credit requirements. FHA loans need just 3.5% down but have stricter credit standards. VA loans offer 100% financing for veterans. USDA loans do 100% financing for rural buyers.
Step 2) Complete the Loan Application
You’ll provide financial details like your income, debts, requested loan amount, estimated home price, and down payment. Supplying accurate information gets you the right loan ballpark.
Step 3) Allow the Lender to Verify Information
The lender will verify employment, income sources, account balances, credit, and debts. This usually takes anywhere from 2 days to 2 weeks. Promptly send additional documentation they request to speed things along.
Step 4) Get Your Pre-Approval Letter
Once the underwriting review is complete, you’ll receive a pre-approval letter stating your maximum loan amount, rate lock period, and any conditions. Shop confidently knowing exactly what you can borrow.
Step 5) Browse Homes and Submit Your Offer
Finding the right home quickly is critical after pre-approval. Interest rates and home prices won’t wait. Now you can make a solid cash offer backed by your financing. Act fast and get the home you want.
What Exactly Does the Lender Evaluate?
Mortgage lenders dig deep into your financial background when assessing pre-approval. Knowing what they review helps prepare a stronger application.
Employment History
Lenders want a minimum of two years of stable employment or self-employment. Gaps require letters explaining the circumstances. Recent grads and the military may have alternative guidelines.
Income Analysis
Your total income must be reliable and adequate to support loan repayment and other debts. Expect income verification through tax returns, pay stubs, and statements. Bonuses, investments, and side income require documentation too.
Credit Reports and Scores
Most lenders require minimum credit scores between 620-660. Higher scores earn better rates. They’ll review your entire credit profile, not just the score, looking for red flags like bankruptcy or foreclosures.
Cash Reserves
You’ll need funds for the down payment and closing costs. Lenders verify you have the assets by reviewing account statements. Gifts from relatives require special documentation.
Debt-to-Income Ratio
Your total monthly debt payments, including the new mortgage, usually cannot exceed 36% of your gross monthly income. Compensating factors like added income sources may loosen this requirement.
Getting Pre-Approved When Self-Employed
If you’re self-employed, expect to provide extra documentation about your business and income. Here’s a preparedness checklist:
- 2 years of complete federal tax returns for the business
- The profit and loss statement for the current year.
- Business license or CPA letter verifying ownership
- 1099 forms if you earn additional side income
- Bank statements showing cash flow for at least 12 months
Since your income fluctuates, underwriters will average earnings over two years. Be conservative when estimating your monthly income for qualifying. Solid reserves in your business bank account also help offset the risk of unpredictable self-employment income.
Improving Your Odds for Home LoanApproval
Even if your finances aren’t perfect, small steps can boost your pre-approval chances before applying.
- Pay down credit card balances – Lower balances help your credit utilization ratio
- Make on-time payments – Delinquent payments must have explanations
- Keep old accounts open – Having a long credit history improves the score
- Limit new credit inquiries – Opening too many new accounts can lower the score
- Save for a larger down payment – At least 10% down provides better loan terms
- Choose lower-risk loan type – FHA, USDA, and VA have more flexible requirements
Having a co-borrower with stronger credit also improves the chances for approval. Pre-approval isn’t necessarily final but gives you the green light to make an offer backed by financing.
What to Expect After Home Loan Pre-Approval?
Getting the pre-approval letter is a major milestone, but you’re not done yet. The purchase process keeps moving rapidly from here.
Once your offer is accepted, the lender will order an appraisal and issue final approval. You’ll receive a Loan Estimate outlining projected costs within 3 days of applying. Then you’ll have a chance to lock your rate up to 90 days. Rate locks vary by lender but typically cost 0.25 to 0.5% of the loan amount.
Your lender will review the purchase contract, perform a title search, and schedule inspections. During underwriting, you’ll verify any changes to your financial details since pre-approval.
A week before closing, you’ll receive a Closing Disclosure with your final loan costs, rate, and monthly payment. After final walkthroughs, you’ll sign documents and the title transfers!
Let the Home Loan Journey Begin
While pre-approval adds complexity upfront, you’ll thank yourself later for laying this solid groundwork. Buying a home is fulfilling but demanding. Financing is the make-or-break foundation.
By using this comprehensive guide, you can enter the process with confidence. Do your due diligence by gathering materials, choosing a lender, and improving your financial profile. Stay organized as you complete each step. With pre-approval in hand, you’ll be ready to embark on the most rewarding purchase of your life!