If you started searching for a home before getting your conditional approval letter, you may have done things backward. While it seems right to find a home and then look for financing, this can complicate matters. How do you know how much loan you can afford? How do you know what lenders will give you? Without these answers, you really don’t know how much you can spend on a home.
So what’s the difference between a conditional approval letter and a prequalification? We help you understand the two terms below.
What is a Conditional Approval Letter?
A conditional approval letter also goes by the name pre-approval letter. It’s the step after you get prequalified. Lenders issue a conditional approval letter once they review your preliminary qualifying documents. This includes your:
- Credit report
- Pay stubs
- Tax returns
- Asset statements
You supply these documents along with your loan application for the lender’s review. The underwriter then issues the conditional approval letter, if you meet the loan program’s guidelines.
Is a Conditional Approval Letter Enough?
You might think the pre-approval or conditional letter isn’t enough; the name alone makes it sound deceiving. In reality, the conditional letter lets sellers and/or realtors know that an underwriter reviewed your documents and agrees that you qualify for the loan based on the supplied information.
What are the conditions that lenders make the loan subject to, though? They typically include:
- The appraisal – Lenders need to know that the home or the collateral is worth at least as much as the loan amount. The home is what the lender holds as collateral should you stop making your payments.
- Final employment verification – Lenders will typically verify your employment just before the closing. Since a lot can change between when you apply for the loan and when you close on it, lenders need to make sure that you still have the same job
- Final credit check – Lenders typically pull your credit one more time before you close on the loan. Checking your credit again lets lenders know that you didn’t open any new loans or that you didn’t default on any current loans while waiting for your loan approval.
What’s the Difference With a Prequalification?
You probably wonder what the difference is with a prequalification. While the two terms are often used interchangeably, they are two completely different terms.
A prequalification is an estimate of what you can afford. The main difference is that lender’s don’t verify any of the information that you provide. You state your income, assets, credit score, and approximate debt ratio. The lender uses this information to tell you how much you could afford and which program you may be able to get based on the information that you provide.
The prequalification is the first step that you should take, but it’s not the last. You can get prequalified when you start thinking about buying a home, but aren’t quite ready to start the process. It’s a good way to see around how much loan you may qualify to receive, but it’s not any type of approval. Once you are ready to move forward and start shopping for a home, you should take the next step to get pre-approved.
Since a pre-approval is only good for up to 90 days, it’s best if you wait until you are truly ready to start shopping for a home to get your conditional approval letter.
What if Your Conditional Approval Letter Expires?
Your conditional approval letter will have a good through date. Typically, lenders give you up to 90 days, but some may allow only 60 days. If you don’t find a home within that timeframe, you’ll have to reapply for the loan.
While this seems tedious, lenders require it to protect everyone involved. The approval provided is very time sensitive because it’s based on your income, assets, and credit score at the time of application. Each of these factors can change in the blink of an eye. If your credit score dropped or your income decreased, you may not qualify for the same loan. If the lender didn’t re-verify your qualifying factors, they may approve you for a loan that you can’t afford.
Typically, in order to update your conditional approval letter, you just need to provide updated information on your qualifying factors. This means providing updated paystubs, W-2s (if a new year occurred), and updated asset statements. Lenders will also pull your credit again.
The Benefit of the Conditional Approval Letter
The conditional approval letter provides you with many benefits. The largest benefit is the negotiating power it gives you with sellers. Without the letter, you don’t have a lot of bargaining power. Sellers don’t know that you qualify for a loan, so they don’t know that you are a serious buyer. They may not take your bid seriously and may even take a lower bid from another buyer that has a pre-approval. That’s why it’s so important to have the approval letter before shopping for a home.
The conditional approval letter also makes the process go faster for you once you buy a home. Since lenders complete a large part of the approval process in order to provide you with the letter, you just have to wait for the appraisal and final verifications in order to get your loan to the closing table.
If you are serious about buying a home, don’t overlook the need for a conditional approval letter. It’s your best chance at having the winning bid as well as ensuring that you get the loan that you need to purchase the home.