A Mortgage Pre-Approval Letter in Plain Words

We get it: You hardly recognize yourself. Foregoing weekend plans to drive through the burbs? Errr, yep. And now you’ve found the perfect spot that’s got you dreaming of a two-story house with a poolside cabana. While visions of dreamy decor and parties in that chef’s kitchen dance in your head, why does the music suddenly scratch when the conversation turns to lending, your mortgage pre-approval letter and mortgage qualification?

Because we’re told it’s supposed to be a complicated process. In the midst of one of the most exciting events of your life, lending doesn’t have to be so hard. The mortgage process starts with a document known as a pre-approval letter that’s not nearly as difficult to get or understand as we’re led to believe. Let’s get up to speed.

The pre-approval letter lowdown

A pre-approval letter is generated towards the beginning of the home search. You may have an idea of the home you can afford, but you first need a bank to tell you they’re willing to lend you the money. Easy peasy, right? Right!

A pre-approval letter is based on documents that you provide to your lender. In response, they tell you exactly how much you’re approved to borrow and put a little weight behind these six little words: "I’m ready to buy a house." This letter is a golden ticket of sorts, opening the eyes and ears of sellers and realtors alike. It tells them that you’re a legit buyer.

The process is pretty straightforward

Securing financing is often referred to by industry pros as a ‘process.’ While it might at first appear to be harder than showing your great aunt Edith her way around the web, it’s not. The pre-approval letter, also known as your PAL (like a friend, see?) is designed to set you up for homebuying success and to get you settled into your version of the American dream as painlessly as possible.

The deets of your pre-approval letter

To obtain this coveted letter, you can either (gasp!) walk into your bank, or take the stay-in-your-snuggie method and apply online. Your lender of choice will pull your credit score and ask a few questions to determine your debt-to-income ratio. You’ll provide some documentation, like W2’s and paystubs. With this information, they then provide you with the number they’re comfortable lending.

Once you’ve been run through the drill, your friendly loan officer will provide a physical or digital version to forward to your realtor that includes:

• Loan program
• Loan amount
• Purchase price
• Qualified interest rate
• Expiration date

It might look like this:

This preapproval is based on a review of the income, credit and asset information you provided and is subject to a formal underwriting review.

Keep in mind that a pre-approval letter does not guarantee loan approval. Sound confusing? It’s really not, as long as you are mindful of financial decisions during your homebuying process. If you decide to take out a loan to deck out your garage, for example, your debt to income ratio very likely will change and your approval status could, too.

There are also issues out of your control that could potentially cause the pre-approval to change slightly, including a lower-than-expected appraisal (which can sometimes lead to a renegotiated—and lower!—purchase price since banks won’t lend more than appraised value), an increase in mortgage rates, or an issue with the title search.

So...what can I do?

For the items you do have control over, keep in mind that your credit score and financial health are under a microscope throughout the mortgage process. Here are a few quick tips to keep the process chugging along:

• Keep your day job
• Make timely monthly payments for rent, utilities, credit cards
• Keep enough cash in checking to avoid an accidental overdraft
• Hold off on big purchases (including new loans and/or spendy credit card purchases)

And don’t forget to shop your rate by reaching out to a few lenders. Look at the rates closely before assuming one is truly lower, as some loan products include an origination fee and/or assume points which alter the true rate. Pro tip: compare the APR (annual percentage rate) rather than just interest rates for the best deal, as the APR provides a true total upfront cost including different rate and fee combinations. There’s no harm in comparing offers. Lenders will run your credit each time you get pre-approved, but if you get quotes within a 14-day window they will be considered as one pull on your credit.

Are those pre-approval letter digits set in stone?

Definitely not! Your pre-approval can serve as a nice bargaining tool. Say you’re pre-approved for $230,000, but found a home that you feel is worth $180,000. You have $15,000 to put down. Rather than showing the seller you can afford $230,000, your lender can adjust the PAL to reflect a maximum loan amount of $165,000. This way, the sellers know you can afford the home, but you now hold the power of negotiation in your hands. Thanks, PAL!

Now what?

Armed with your best PAL at your side, you can now make an offer on a home. Your realtor will work with the seller’s agent to get the offer process started. If you have a house in mind and think you have a good shot at actually buying it, you might consider locking in the rate (moving forward with loan application) to remove the uncertainty of how a change in rates might alter your ability to complete the transaction.

Now, go forward with your newly acquired gumption and get on that path to homeowner bliss.