If you plan on borrowing to pay for a new home, finding out if you prequalify for a home loan is the first part of the process. Prequalification gives you an idea of how much house you’ll be able to buy without straining your finances. You’re not obligated to buy a house, take out a loan or work with a specific lender when you prequalify for a home loan. However, the more accurate your prequalification is, the more accurate your home search will be.
Ability to pay
A mortgage lender looks at two factors when prequalifying someone for a loan, according to Duffy Home Loans. One key factor is your ability to repay the loan if you do end up getting the mortgage. To determine if you have the ability to pay the loan back, a lender will look at your employment history and income. You provide the lender with information about your income and employment at the prequalification stage, but you don’t have to prove your exact income.
The lender uses your income and any debts you already have to determine how much you’ll be able to put toward your housing costs, which include the principal, interest and taxes. Usually, your total debt, including your potential mortgage payments, must be less than 43 percent of your monthly gross income, according to an article on CNNMoney.
Willingness to pay
In another essential part of the prequalification process, the lender assesses whether you’re willing to repay the loan once you buy the house. While a lender can’t say for certain whether you’ll pay back your mortgage, looking at your credit history can provide an idea of your history of paying back loans. If your credit report shows that you regularly pay late or don’t pay at all, you’re less likely to prequalify for a home loan.
Prequalification vs. preapproval
Prequalification for a mortgage is just an estimate, and there’s no guarantee you’ll actually get a loan when the time comes, according to the Consumer Financial Protection Bureau. The lender looks at information you provide and uses it to give you an idea of the size of the mortgage you might be able to get.
Preapproval for a mortgage is different. It’s more official because the lender actually verifies your financial information and credit score instead of taking your word for it. Typically, you’ll pay a fee to run your credit report and start the actual mortgage application process.
Getting prequalified gives the buyer’s agent some peace of mind. It signals to an agent that you’re serious about buying and that you are likely able to afford homes in a specific price range. But, a preapproval for a mortgage is an even stronger signal that you’re serious about buying because the paperwork is official and verified. It’s less likely that surprises will appear to hold up the process after an offer is accepted. With a preapproval, you’re closer to getting an actual mortgage than you are with a prequalification.
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