Home Financing & Pre-Approval: What Buyers Should Know

Why financing comes first

Most people start by looking at homes. It is more useful to start with the money, because the money sets the boundaries of the search. Until a lender has looked at your income, debts, credit and savings, any price range is a guess — and guessing high tends to end in disappointment, while guessing low can mean passing on homes that were actually within reach.

There is a practical reason too. Sellers and their agents usually want to see that a buyer has been through some lender review before they take an offer seriously. Having that done early means you can act when the right home appears instead of scrambling.

Pre-qualification vs pre-approval

Lenders use these two words inconsistently, so ask what each lender means by them. In general:

• Pre-qualification is often an informal estimate based on information you describe, without the lender verifying it.
• Pre-approval usually means the lender has reviewed documents — pay stubs, tax returns, bank statements, a credit report — and is willing to lend up to a stated amount, subject to conditions such as the property appraising and nothing material changing.

Two things are worth remembering about a pre-approval letter. First, it is not a loan commitment; the actual approval comes later, after the lender has reviewed the specific home and the final loan. Second, it typically has an expiration date, so ask how long yours is valid and whether it can be refreshed.

The Consumer Financial Protection Bureau's advice is not to worry too much about which label a lender uses, and instead to ask exactly what was checked and what conditions apply.

What lenders commonly evaluate

Every lender and loan program has its own rules, but the review usually covers the same broad areas — sometimes summarised as capacity, capital, collateral and credit:

• Income and employment. How much you earn, how stable it is and how it is documented. Self-employment, commission and bonus income are often reviewed over a longer period.
• Credit. Your credit reports and scores, including how you have handled past debts. Reviewing your own reports early gives you time to correct errors.
• Existing debts. Car payments, student loans, credit cards, support obligations and similar monthly commitments.
• Assets and cash available. What you have for the down payment, closing costs and, for some programs, money left over afterwards (often called reserves). Lenders generally need to document where large deposits came from.

Debt-to-income ratio

One measure lenders use is your debt-to-income ratio (DTI): your total monthly debt payments — including the proposed housing payment — divided by your gross monthly income. Different loan programs and lenders set different DTI limits, so there is no single "right" number. What matters is that the ratio is one of the main ways a lender judges whether the payment fits.

Loan amount vs monthly payment

A pre-approval tells you a maximum loan amount. The number you actually live with is the monthly payment, and it is worth understanding what goes into it:

• Principal — repaying the amount borrowed.
• Interest — the cost of borrowing, set by your rate and loan type.
• Property taxes — often collected monthly by the lender into an escrow (impound) account and paid on your behalf.
• Homeowners insurance — likewise often collected monthly. Lenders generally require coverage, and in some areas insurance availability and cost deserve early attention.
• HOA dues — if the property is in a homeowners association, these are a separate monthly cost that lenders typically count.
• Mortgage insurance — on many conventional loans with a down payment below 20 percent, lenders require private mortgage insurance (PMI). It protects the lender, not you, and can be paid monthly, up front or both. Some government-backed programs have their own insurance or guarantee fees instead.

Two homes with the same price can have very different payments because of taxes, insurance, HOA dues and mortgage insurance. Ask the lender for the full estimated payment for a specific property, not just principal and interest.

Down payment and closing costs

The down payment is the part of the price you pay from your own funds. Minimums vary widely by program; a larger down payment usually lowers the monthly payment and may remove the need for mortgage insurance, but it also uses cash you may want for repairs, moving or a cushion.

Closing costs are separate from the down payment: lender fees, appraisal, title and escrow charges, prepaid taxes and insurance, and similar items. Freddie Mac's consumer guidance describes closing costs as commonly running in the low single-digit percentages of the purchase price, but the real figure for your loan appears on your Loan Estimate. Some costs can be negotiated, and in some transactions the seller may agree to credit part of them — that is a negotiation point, not something to assume.

Compare loans, not just rates

Once you apply with a lender and provide the basic information about you and the property, the lender must give you a Loan Estimate within three business days. It is a standard three-page form showing the loan amount, rate, monthly payment, estimated taxes and insurance, closing costs, cash needed to close, and comparison figures such as the APR.

Because the form is standardised, you can request Loan Estimates from more than one lender and compare them line by line. Look beyond the rate at:

• the lender's own origination charges and any points;
• whether the rate is fixed or adjustable, and if adjustable, how and when it can change;
• features such as prepayment penalties or balloon payments;
• the total cash to close.

A Loan Estimate is a disclosure, not an approval — receiving one does not obligate you or the lender.

Rate locks

A rate lock is the lender's agreement to hold a quoted rate for a set period — commonly 30, 45 or 60 days — provided the loan closes in that window and your application details do not change. Extending a lock can cost money, and changes to the loan amount, down payment or your credit can affect a locked rate. Ask the lender how long the lock lasts, what it costs, what happens if closing is delayed and whether there is any option if rates fall.

Why changes before closing matter

A pre-approval and even a later loan approval are based on a snapshot of your finances. Lenders may re-verify employment, credit and funds shortly before closing, and material changes can affect the approval or the terms. Between application and closing it is generally wise to ask your lender first before you:

• open new credit accounts or take on new debt, including financing furniture, appliances or a vehicle;
• make large purchases on existing credit cards;
• change jobs or how you are paid;
• move money between accounts in ways that are hard to document, or accept large deposits without a paper trail;
• co-sign for someone else.

None of these is automatically disqualifying. The point is that the lender needs to be able to document your situation, and surprises late in the process are what cause delays.

Questions to ask a lender

• What exactly did you verify for this pre-approval, and what conditions apply?
• How long is the pre-approval valid?
• What is the full estimated monthly payment, including taxes, insurance, HOA and any mortgage insurance?
• Which loan programs might fit my situation, and what are the trade-offs between them?
• What are your origination charges, and are any of the fees on the Loan Estimate negotiable?
• Is the rate locked? For how long, and what does an extension cost?
• What should I avoid doing between now and closing?
• Roughly how long does your process take from accepted offer to funding?

Sapphire Realty does not recommend a specific lender. It is reasonable to speak with more than one and compare their Loan Estimates.

When to involve Alika

Alika is a real estate broker-associate, not a lender, so he will not tell you which loan to choose — that conversation belongs with your lender, and questions about taxes belong with a tax professional. What he can do is help you connect the financing picture to the search: which price range to actually shop in, how a particular property's taxes, HOA dues or condition might affect the numbers, how a pre-approval is read by sellers, and how financing terms fit into an offer. When you are ready to look, read how an offer is put together or search current listings.

If you would rather talk it through than read further, call Alika at (909) 373-7214. A conversation is not an application and commits you to nothing.