What is a Mortgage Prequalification?
With home interest rates having fallen more than a full percentage point from their peak in October 2023 and springtime nearly upon us, we are entering what should be a competitive time to buy and sell homes. One simple, but important, step of preparing to purchase a home is getting prequalified for a mortgage loan.
A prequalification is a preliminary assessment of your creditworthiness for a mortgage loan. Based on financial information you report to a lender, they can determine an estimate for how much you could borrow for a home loan and issue a prequalification letter. Again, this is an estimate and not a binding contract. As a homebuyer, you can take this letter and show a seller and/or real estate agent that you are serious about purchasing a home.
It’s important to note that prequalification and preapproval are two distinct steps. Prequalification is a less formal step step in a homebuying process where you receive a general estimate of what you might be able to borrow for a home loan. It does not include a hard credit check or formal application. It does, however, allow you to work with your lender and get a general feel for how much you can borrow for a mortgage. On the other hand, a preapproval is more formal, includes a guarantee for a home loan with a term (typically 90 days) and will occur right before making an official offer on a home.
Below, we will lay out the basics of a prequalification, why one is important and the steps you can take to getting prequalified.
Three Reasons to Pursue Prequalification
If for no other reason, a mortgage prequalification will help you have a better understanding of how much home you can afford. Knowing an estimated loan amount will help you narrow your options so you can find the perfect home at a price point that won’t break the bank.
During the process of the prequalification, you and a lender can review possible mortgage options and determine what type of mortgage might be right for you. For example, Mabrey Mortgage offers several mortgage options including conventional, FHA, VA, USDA, etc. Read more about our loan options here.
Finally, when you go to make an offer on a home, having a prequalification will give you an advantage over other potential buyers who may not come armed with one. Agents will want to work with a buyer who is serious about closing a deal and has a prequalification letter in hand.
How to Secure a Prequalification Letter and Eventually a Home Loan
Prequalification will require some financial information to help a lender determine a loan estimate. This could be based on a combination of self-reporting assets, income, credit score and employment, among other items. Many, if not all, of these items will be needed eventually during a subsequent mortgage application process.
- Proof of Income: A steady source of income is necessary when ultimately applying for a mortgage loan. Homebuyers must often provide lenders with W-2 statements and tax returns from the past two years and current pay stubs that show their year-to-date income.
- Proof of Assets: Buyers will need funds for their down payment and closing costs. All mortgage loans will allow a seller to contribute to all or some of a buyer’s closing costs if negotiated with the seller on the contract. Proof of Assets can come from the sale of a previous home, the buyer’s savings or possibly from secured borrowed funds – all which are factored into the amount a buyer will be preapproved for.
- Credit Score: Most mortgage lenders require a FICO score of 640 or higher to qualify for a conventional loan and 620 or higher for an FHA loan. Mabrey Bank allows scores down to 600 on FHA loans, and in some cases, 580. Good credit scores will result in a lower interest rate for your home loan. For more information on why Credit Scores are important and what you can do to improve yours, click here.
- Employment Verification: Not only does a lender want to see a steady stream of income, but they also want to see your income is likely to continue. Lenders will contact your employer(s) and verify your employment history for the last 24 months.
Outro – What Happens Next?
As stated above, a prequalification is just an estimate and an initial step to purchasing a home, not a binding agreement. To ultimately secure a home loan, a hard credit check, full financial vetting and application must be done.
Now that you have your prequalification letter, you are ready to start looking at homes that fit your budget. Good luck!