Pre-approved and pre-qualified are not the same

By William Kugel

A common point of confusion to a buyer is the nuance between the terms "pre-approved" and "pre-qualified." These terms are used so often in the same context that most consumers will interpret them as being interchangeable when in fact they are not. Most borrowers would be hard pressed to discern the difference and would interpret both terms similarly. But, there is a difference a very important difference and this difference is important not only to buyers but also to sellers.Both processes, pre-qualification and pre-approval, even look alike to the borrower. Both are done in advance of an actual transaction. Both involve gathering information about the borrower's qualifications. Both usually even involve completing some of the same paperwork. What, then, is the essential difference? The critical difference is that only in one of these two processes has the borrower's request gone through underwriting and a commitment to make the loan has been issued.Pre-qualification is the process of an applicant being qualified in advance for a mortgage to purchase a new home. In the pre-qualification process an attempt is being made to investigate if certain essential qualification criteria are present in the borrower's credentials. A loan officer, who is responsible to the lender for representing the guidelines for the loan program, then can reach an opinion as to whether or not the borrower will meet the lender's guidelines. This process can seem just as entailed as a pre-approval. The critical difference is that only a loan that has been pre-approved has already passed through the underwriting process and a commitment, even if only conditional, has been made to make the loan.To get properly pre-qualified a buyer needs to answer the same questions they would need to answer when actually applying for a loan. A cursory investigation or a casual pre-underwriting analysis can build a reliance on false figures. When a loan pre-qualification is less than thorough, an applicant who believes they will qualify can sometimes be gravely disappointed when all the facts are finally known and the actual loan decision is made. A full and formal pre-qualification requires that the buyer actually fill out an application. This will also allow faster processing and expedite the closing later on, once a property is found and an offer is accepted.A thorough pre-underwriting of the applicant not only means accounting for income, debts, and the down payment, but also includes information on employment history, other income sources, and the buyer's credit history. A credit report is undertaken, allowing the lender to authoritatively state that the applicant's credit history fits within the guidelines of the loan program being sought. Routinely, when you go to your pre-qualification interview you'll need to document your income and your cash and investment assets. It's a good idea to make a list of your current obligations, their balances and required monthly payments. The loan officer should compute income to debt ratios and comprehensively match your qualifications to the guidelines established for making the type of loan you seek. Many formulas have that have been implanted in calculators or are in general use by real estate agents can often be too general or too simplistic to be precise. It is imperative that the income and debt ratios be calculated exactly as spelled out in the underwriting guidelines of the loan program being pursued. Otherwise, it's easy to be misled into a false conclusion as to how much you will really qualify for when your loan is actually submitted for final approval. This process reflects the traditional manual loan processing that has been prevalent for decades. But, there is an easier method. There is a better way with less paperwork. A "pre-approval" implies that the borrower is approved for a loan of a specific amount, even before a property has been identified or an offer made. It is the result of the latest technology and is called automated underwriting. Fannie Mae calls its electronic underwriting system Desktop Underwriting, or DU for short. The beauty of a DU approval or pre-approval is that not only has the loan been through the underwriting process (allowing a commitment to be issued), but it actually involves less documentation, less time, and less effort on the part of the borrower. That's right: If you work with a lender using automated underwriting, and you have excellent credit, the required documentation is usually a lot less. For example, income documentation may shrink from a two-year history to a single pay stub and a telephone confirmation of your employment. I have even seen cases where DU did away with even the pay stub! And, instead of two or three months of bank statements to establish source of funds, many well-qualified borrowers are asked only for one month of documentation. And not only that, many well-qualified applicants being underwritten electronically will find that the normal guidelines for debt-to-income ratios can be exceeded way beyond the traditional guidelines. This allows these applicants to be approved or pre-approved for larger purchases. The commitments that are issued come directly from Fannie Mae insuring that as long as the documentation supports what has been submitted and the appraisal and title search produce normal results the borrower can be confident about getting the loan.So, if you're looking to be pre-qualified, it will be worth your while to be discerning. Try to distinguish whether you will be receiving a pre-approval and a commitment as a result of your efforts. Try to discern if the lender you're working with is trying to fit you into one of their loan programs or if, preferably, they are exploring your needs first and then searching for the one loan program that will best fit your needs. Finally, the borrower should receive at least a formal letter of pre-qualification or pre-approval. Loans approved electronically usually make a letter of commitment possible well in advance or at the time of application. These letters are helpful to real estate agents and sellers in determining who to work with. Keep in mind that these letters will almost always be conditional. DU approvals are usually only subject to receiving any documentation not already available; completing the phone verifications, clear title and an acceptable appraisal of the subject property.Being pre-approved or for your financing will save all parties in the transaction a lot of time and effort. As sellers become more knowledgeable, pre-approved status will carry more weight in their decision to accept your offer. If you only get yourself pre-qualified, make sure that whoever does it is thorough. The column MORTGAGE$ has been in publication for 14 years. William Kugel is a senior loan officer with GMAC Mortgage Corp., and a Mount Washington Valley resident. You may contact him at 888-777-5099, write him c/o of The Conway Daily Sun, visit the Web site www.gmacm.net/william_kugel or send e-mail to william_kugel@gmacm.com.All Rights Reserved. Copyright 2004, W.H. Kugel.