How Does Mortgage Preapproval Work?

A mortgage preapproval helps you determine how much you can spend on a home, based on your finances and lender guidelines. Many lenders offer online preapproval, and in many cases you can be approved within a day. We’ll cover how and when to get preapproved, so you’re ready to make a smart and effective offer once you’ve laid eyes on your dream home.

What is a mortgage preapproval letter?

A mortgage preapproval is written verification from a mortgage lender stating that you qualify to borrow a specific amount of money for a home purchase. Your preapproval amount is based on a review of your credit history, credit scores, income, debt and assets.

A mortgage preapproval brings several benefits, including:

Giving you a ballpark budget for a home purchase
Showing you what mortgage rate you may qualify for
Ticking a box that many real estate agents require before they’ll agree to work with you
Reassuring sellers that your offer is serious and you can secure financing

How long does a preapproval for a mortgage last?

A mortgage preapproval is usually good for 60 to 90 days. If you let the preapproval expire, you’ll have to reapply and go through the process again, which can require another credit check and updated documentation.

Lenders want to make sure that your financial situation hasn’t changed or, if it has, that they’re able to take those changes into account when they agree to lend you money.

5 factors that can make or break your mortgage preapproval

1. Credit score. Your credit score is one of the most important aspects of your financial profile. Every loan program comes with minimum mortgage requirements, so make sure you’ve chosen a program with guidelines that work with your credit score.
2. Debt-to-income ratio. Your debt-to-income (DTI) ratio is as important as your credit score. Lenders divide your total monthly debt payments by your monthly pretax income and prefer that the result is no more than 43%. Some programs may allow a DTI ratio up to 50% with high credit scores or extra mortgage reserves.
3. Down payment and closing costs funds. Most loan programs require a minimum 3% down payment. You’ll also need to budget 2% to 6% of your loan amount to pay for closing costs. The lender will verify where these funds come from, which may include:
   • Money you’ve had in your checking or savings account
   • Business assets
   • Stocks, stock options, mutual funds and bonds
   • Gift funds received from a relative, nonprofit or employer
   • Funds received from a 401(k) loan
   • Borrowed funds from a loan secured by assets like cars, houses, stocks or bonds
4. Income and employment. Lenders prefer a steady two-year history of employment. Part-time and seasonal income, as well as bonus or overtime income, can help you qualify.
5. Reserve funds. Also known as Mortgage reserves, these are liquid savings you have on hand to cover mortgage payments if you run into financial problems. Lenders may approve applicants with low credit scores or high DTI ratios if they can show they have several months’ worth of mortgage payments in the bank.

Mortgage prequalification vs. preapproval: What’s the difference?

Mortgage prequalification and preapproval are often used interchangeably, but there are important differences between the two. Prequalification is an optional step that can help you fine-tune your budget, while preapproval is an essential part of your journey to getting mortgage financing.

Prequalification	Preapproval
Based on your word. The lender will ask you about your credit scores, income, debt and the funds you have available for a down payment and closing costs No financial documents required No credit report required Won’t affect your credit score Gives you a rough estimate of what you can borrow Provides approximate interest rates	Based on documents. The lender will request pay stubs, W-2s and bank statements that confirm your financial situation Credit report reqired Can temporarily affect your credit score Gives you a more accurate loan amount Interest rates can be locked in
Best for: People who want a rough idea of how much they qualify for, but aren’t quite ready to start their house hunt.	Best for: People who are committed to buying a home and have either already found a home or want to begin shopping.

How to get preapproved for a mortgage

1. Gather your documents

You’ll typically need to provide:

• Your most recent pay stubs
• Your W-2s or tax returns for the last two years
• Bank or asset statements covering the last two months
• Every address you’ve lived at in the last two years
• The address and contact information of every employer you’ve had in the last two years

You may need additional documents if your finances involve other factors like self-employment, divorce or rental income.

2. Spruce up your credit

How you’ve managed credit in the past carries a heavy weight when you’re applying for a mortgage. You can take simple steps to improve your credit in the months or weeks before applying for a loan, like keeping your credit utilization ratio as low as possible. You should also review your credit report and dispute any errors you find.

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3. Fill out an application

Many lenders have online applications, and you might hear back within minutes, hours or days depending on the lender. If all goes well, you’ll receive a mortgage preapproval letter you can submit with any home purchase offers you make.

What happens after mortgage preapproval?

Once you’ve been preapproved, you can shop for homes and put in offers — but when you find a specific house you want to put under contract, you’ll need that approval finalized.
To finalize your approval, lenders typically:

• Go through your loan application with a fine-toothed comb to make sure all the details are still accurate and can be confirmed with documentation
• Order a home inspection to make sure the home’s components are in good working order and meet the loan program’s requirements
• Get a home appraisal to verify the home’s value (most lenders won’t give you a mortgage for more than a home is worth, even if you’re willing to buy it at that price)
• Order a title report to make sure your title is clear of liens or issues with past owners

If all of the above check out, your loan can be cleared for closing.

What if I’m denied a mortgage preapproval?

Two common reasons for a home loan denial are low credit scores and high DTI ratios. Once you’ve learned the reason for the loan denial, there are three things you can do:

1. Reduce your DTI ratio. Your DTI ratio will drop if you reduce your debt or increase your income. Quick ways to do this could include paying off credit cards or asking a relative to cosign on the loan with you.
2. Improve your credit score. Many mortgage lenders offer credit repair options that can help you rebuild your credit.
3. Try an alternative mortgage approval option. If you’re struggling to qualify for conventional and government-backed loans, nonqualified mortgage (non-QM loans) may better fit your needs. For instance, if you don’t have the income verification documents most lenders want to see, you might be able to find a non-QM lender who can verify your income using bank statements alone. Non-QM loans can also allow you to sidestep the waiting periods most lenders require after a bankruptcy or foreclosure.