The process of buying a new home can be very exciting, but it can also present a very daunting task for the prospective home owner, especially if it is their first time buying a home. For many, one of the most difficult parts of purchasing a new home is all of the paperwork that is required and it is true that by the time you finish closing on the home, you will very likely have a sore wrist from signing your name.
However, before a person can purchase a home most will have to apply for and be approved for a mortgage, which is a type of loan that uses the home and land as a form of collateral. This is because most new home buyers do not have enough money to purchase the home upfront and instead must turn to a bank or other lender to borrow the money. When you first speak with a mortgage broker, bank, or other lending institution, you will likely either be preapproved for a mortgage or prequalified for the mortgage. While in some financial institutions these terms are used interchangeably, there is a technical difference that should be noted.
Prequalification for a home mortgage is probably the quickest and easiest way to see if you are eligible for a mortgage. During the prequalification, the lender will ask a series of questions regarding your salary, current level of debt, and your assets. Sometimes, the lender may require the prospective borrower to fill out a form with this information, but some will prequalify people over the phone or Internet.
Once the borrower has supplied their current financial information, the lender will use this data to determine what type of mortgage they could offer. The lender does not actually check to see if this information is correct, nor do they run the borrowers credit. Instead, they provide a letter that states how much they would offer assuming all of the information about the borrower is correct.
With a prequalification, it is possible to supply the lender with false information and receive an estimate that is much larger than it should be. However, before the lender offers the loan, they will verify that all the information you provided is correct. So, falsifying this information is not in the best interest of the lender or the borrower. This is also the reason that most sellers and real estate agents look at prequalification letters with a very high level of suspicion. Often, they will require a much stronger letter from the lender before approving the purchase agreement.
During a Preapproval the lender will not only request information about the borrowers finances, but they will also take measures to verify this information. This means that they will run the individuals credit and may even require copies of work and tax statements. Once they have verified this information, the lender will be able to offer the borrower a mortgage.
However, even though someone is preapproved, this does not guarantee that they will receive the loan, nor does it legally bind the bank to give the individual the mortgage. Typically, the bank will require a completed application before officially approving the mortgage, but a preapproval is much stronger than a prequalification.
Typically, a real estate broker or real estate agent will look at a preapproval letter much more favorably than simply a prequalification letter, because a preapproval letter shows that lender has actually verified that the information the borrower provided is correct. However, since the bank has not officially approved the loan yet, a number of brokers will not take a preapproval letter at face value, instead looking at it with a little suspicion.