Financial Tip Friday: Pre-Qualification and Buying a House

Financial Tip Friday: Pre-Qualification and Buying a House

It is getting late into the summer and by all accounts this has been a great time to buy a house for many people. Interest rates are at a near all-time low, there is less inventory on the market, prices are moderating some places and in the area where we live there are still plenty of deals to be had. Now that doesn’t mean it is easy to buy a home. I think I saw a statistic last week that said 8 million homes are still underwater, which is terrible for those people who want to move. I hope the market improves enough and/or a program is developed so they can refinance their homes and make a little progress out there.

Additionally, it looks like more and more people are looking into buying a house. It is really expensive to rent at the moment, depending on where you live, and buying a house could be potentially a good investment. Generally, I think buying a home is a good thing, but that doesn’t mean it is necessarily less expensive to buy a house than to rent. There are some reasons not to buy a house:

1) If you are not going to in the area for more than five years I wouldn’t buy a home because you probably won’t recoup your closing costs and the amount of money you would have to pay a realtor when you sell the house. It is better to rent.

2) If you plan on switching jobs I wouldn’t buy a home right away. Mortgage lenders like to see at least two years of steady employment. If you job hop that could be red flag to some lenders.

3) If you don’t have any savings. While there are great programs out there to help people buy homes with little or no down payment that doesn’t necessarily help when you buy the house and the toilet goes out or the air conditioning doesn’t work. Mrs. ROB and I have spent probably about $5000 in the last year on fixing the air conditioning, replacing a toilet, a new dryer, and putting insulation into our home. And that doesn’t include furniture, decor, gardening items, lawn care, mortgage payments, insurance, etc. I am looking forward to a year when we don’t have these expenses.

4) I wouldn’t buy a home if you aren’t willing to do some repair projects. I fully admit I am not the handy one in our house. That would be my wife. But she kinds of enjoys it. For example, she fixed our upstairs bathroom sink about a month ago and I supervised (which is I bought the parts) but she did all the work. She is great at that stuff. I am not so much. I can put together some items, but Mrs. ROB is MUCH more mechanical than I am, which is ironic if you knew my father.

So those are some reasons to buy a house. That said, I generally think that buying a home, if you plan to be in the area for a bit and have some savings (e.g. a down payment of some kind and stable employment) is a good thing.

Getting Pre-Approved For a Mortgage

So I have written a couple of posts on home buying over the past few months. I talked about how my wife saved us $50,000, how it is the little things that cost us the most, different types of mortgages, and low down payments. What happens when you figure out that you want to buy a house? There are a variety of steps to take, but I want to speak to one in particular: should you get pre-qualified for a mortgage?

My answer to that question is absolutely yes. Now there is a bit of a difference between a pre-qualification and a pre-approval. A pre-qualification is a determination by the mortgage company of about how much you can borrow based upon some basic information you supply (e.g. income, employment history, debts, etc). Pre-qualifications don’t have to involve hard pulls of your credit score and are typically free.  A pre-approval is actually a bit more paperwork. In a pre-approval the mortgage company would probably pull your credit report and look at your credit score and give you a much more solid determination of what you can borrow and whether or not you could work with that bank.

In my opinion, I would actually kind of skip the pre-qualification and go straight to the pre-approval. You can go to any number of calculators on the internet and they can tell you what you might pre-qualify for based upon some basic numbers. However, a pre-approval is where you have supplied the bank more information. In fact, I would get a pre-approval from at least three different banks.

Why Get Multiple Pre-Approvals?

Now in any pre-approval situation the bank will pull your credit score. They will inquire into your credit history. Those inquiries will affect your credit score. Because it affects your credit score there are a variety of people who suggest you shouldn’t get multiple pre-approvals. I think that is absolutely hogwash and there are several reasons why:

1) Different lenders will approve you for different amounts of money. We actually got three different pre-approvals from lenders and each one of them actually had different amounts we could borrow.

2) Different lenders have different rates. When you get pre-qualified for a mortgage the loan officers may give you a bit of information on the specific rates and products they offer, but with a pre-approval they are going to give you much more specific information. You will basically know how much you can borrow and get a specific interest rate.

3) Different lenders have different programs. When we got pre-approvals from different lenders they didn’t have any specific programs that were tailored to my profession (education). The lender we eventually went with actually had a program where they would, in exchange for a slightly higher interest rate, would pay for our PMI (private mortgage insurance). Private mortgage insurance is required for anyone that has less than a 20% down payment for a house. Because we only had about 5% down I didn’t have to carry the burden of this cost each month. And when I compared the interest rate we got from that lender then what we received from others it actually turned out to be cheaper in the long-run. My mortgage lender had a special program for educators.

4) Shopping around could save you thousands of dollars. Remember, just because you get pre-approved from one lender doesn’t mean you have to use them. As I noted above different lenders might offer different rates or different items that over the course of the loan could save you thousands. Even .25% difference between interest rates could save someone a few thousand dollars over the life of the loan. Saving money seems to me a good reason to shop around.

5) You might be able to get more house than you thought. Now I am not one to recommend that you overpay for a house. In fact, I think many Americans buy homes that they don’t need all of that space. Mrs. ROB and I chose a house that is modest, but we could grow into it if we wanted. We have plenty of space for the two of us (hopefully more someday) and we can add a fourth bedroom if necessary. Moreover, this home is much less expensive than others we were looking at.

However, my lender actually informed me that we could’ve bought a house for more money, actually a lot more. Now I knew that I had qualified with them for a bit bigger mortgage and I am glad we didn’t buy a bigger house. But it is nice to know that if I needed a bigger home or if I need one in the future I can go to this lender and they will take care of me.

Getting multiple pre-approvals allows you to shop around, compare prices, programs, how much you can afford, etc. I mean this is going to be the biggest thing you ever buy. You should shop around. It only make sense. Get the best deal you can.

What Happens Next?

Once you have been pre-approved by one or multiple lenders then you can get a letter from your bank or mortgage company stating what the terms of the loan will be. This can be useful when you are going to different properties and potentially putting offers on a home. Many sellers are still gun-shy because of the housing market a few years ago. Having pre-approval in hand allows you to demonstrate you are serious about buying the home because of the leg work you had to go through ahead of time.

Once you have your pre-approval letters than you can make a decision about which lender you want to go work with, find a home that might work for you and make an offer on that home.

Now just because you are pre-approved doesn’t mean the mortgage couldn’t fall through. I mean things happen. You might lose your job, they might find some other debt that you didn’t know about, your spouse could change jobs, etc. All kinds of things can happen. That said, getting multiple pre-approvals puts you in the consumer drivers seat. More information, in my opinion, is a good thing, particularly when you are shopping for the biggest item you will ever buy.

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