Pre-Qualifying vs. Pre-Approved: Know the Difference or Lose the Deal
Whether through a flipping show on HGTV or by simply browsing the internet for the best ways to build wealth, you have discovered that real estate investing is the best option for you and your financial future.
Let me just say, I think you are making a great decision.
Deals, Agents, and Lenders—Oh My!
Picture this scenario. It is one most newbies go through, and yes, I went through it myself.
You’ve racked up hours upon hours of research and knowledge by scouring the BiggerPockets Forums, reading the blog, listening to the BiggerPockets Podcast, and you have learned what strategy you want to execute in order to achieve financial freedom (or simply increase passive income).
You have chosen the perfect neighborhood—with the hipster coffee shops and active night life—where you can see young, athletic couples running throughout the day.
You’re confident and feeling ready to buy your first investment property!
After weeks of waiting and searching the MLS for that perfect investment, it finally pops up, and you call your agent.
“Hey, Bill! I found a property. Let’s go check it out!”
A few hours later, you meet Bill at the house, and at this time, your stomach is full of butterflies from the excitement that this could be the one! You check it out, and all looks good. You tell Bill the magical phrase that all new investors long to say: “Let’s make an offer.”
Bill says, “Awesome! All I need is your pre-approval letter from your lender, and we will submit our offer!”
You give Bill your pre-qualifying letter that your mortgage lender has given you, because it should be “good enough” (not knowing the difference).
You make the offer, and believe it or not, it’s accepted! However, the glory is short-lived.
You have no choice but to give up the property because your loan falls through. There goes that deal.
Now, this is incredibly common, and it actually happened to me. You see, there is a HUGE difference between “pre-qualifying” and being “pre-approved.”
If you haven’t gone through the process of calling a mortgage lender yet, it will feel intimidating. But believe me, it is not. You call up a lender that you have been referred to or have met on BiggerPockets.com (or even via your local REIC). They will ask you basic questions such as:
- What is your credit score?
- How much is your income?
- Do you have any recurring debt?
- How much is in your bank account?
- What and how much is the property you are looking at?
- And a few other questions that you should definitely be able to answer.
Based on your responses (which should all be true and accurate), they will give you a quote on what you should be able to receive. They will draft a letter based on the assessed information, and this is known as your pre-qualifying loan amount.
Although this may seem like a great thing, and for a newbie it’s a huge step, you should also understand that all this is really saying is, “Here’s a number that really doesn’t mean anything and is only meant to keep you interested in working with us.”
This is what actually matters. Don’t bother sending in your pre-qualified letter. If you are serious and ready to make an offer that can be accepted to go under contract, you will NEED to be pre-APPROVED.
What is the difference? A pre-approval letter is an official quote from the lender saying they WILL loan you "X" amount for a propertyâwhereas "pre-qualifying" is saying that they will possibly loan you "X" amount if everything you say has been checked and certified.
When it comes to being pre-approved, they will run a credit check (which will definitely be a shock to you if you are using Credit Karma to check your credit score).
Every lender I have talked to has told me you can expect a 20 to 50 point drop in your Credit Karma report when you find out what it actually is. And yes, this happened to me.
Also, they will require two years of tax returns. This one can be worked around a little bit if you have a lender that is willing to do some extra work.
Along with a credit check and tax returns they will request:
- Pay stubs
- Bank statements
- A photocopy of your I.D.
- Possibly your student transcripts if you are just out of college
- And a few other items that your lender will specify
The whole process takes a day or two, but if you are ready to invest, it’s a step that you have to take. Especially in a hot market like we have here in Denver, Colo., if you aren’t pre-approved, you will be pre-removed. (That was a good one, right?)
Progress, Progress, Progress
When it comes to starting out as a newbie investor, the road is long and filled with lessons, errors, knowledge, and rewards at every corner.
The only true mistake you can make is not taking action. To be completely honest, as much as I have learned from BiggerPockets, I have learned even more by simply doing it.
Each phase will bring new obstacles, and each obstacle holds new knowledge and experience. It’s never ending and always rewarding (as long as you don’t repeat the same mistakes). Keep taking action and keep moving forward.
“The distance between your dreams and reality is called action.” —Unknown
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What steps have you taken in the past few weeks to land your first deal? What obstacles have you run into—and what have you learned?
Let me know your experiences with a comment!