Posted 16 days ago

Pre-approval letters: useless, worthless and easily made better

Pre-approval letters.  What they are and why they are of absolutely no use whatsoever to anyone except your lender.

In short, a pre-approval letter is a piece of paper from a lender that says a certain person has been pre-approved to purchase a specific house for a specific price contingent upon a whole number of things.  But did you know that fewer and fewer lenders will issue pre-approval letters?  Most don't even use those.  Instead they do something much worse: they issue a pre-qualification letter.

What's the difference between a pre-qualification letter and a pre-approval letter?  A lot!

A pre-approval letter is issued by a lender after they have received documents from the borrower such as pay stubs and tax returns and bank statements. So the pre-approval is based on quasi-verified numbers. These numbers have been documented but they haven't yet been fully verified.

A pre-qualification letter is based on the numbers the borrower provides the lender.  The borrower tells the lender what they make, what their credit score is, how much they have in the bank, etc.  So as you can see instantly, a pre-qualification letter is a worthless piece of paper.  

    A pre-approval letter is a heck of a lot more than a pre qualification letter, but it still is meaningless!  Every single pre-approval letter is going to have verbiage like the following: this approval is subject to:

    1. Fully executed purchase and sales contract
    2. satisfactory appraisal
    3. no change in borrowers financial status
    4. no decrease in credit FICO scores
    5. this approval is subject to final under writer review and approval

    To summarize, this particular approval is subject to final approval which makes the entire document completely and utterly worthless.  This letter is about protecting the lender.

    Why do we still bother with it?  Because it's simply standard practice.  The real estate industry has been doing this for so long they never stopped to ask if it should continue.  In their defense, real estate agents and especially loan officers, for the most part (on average), aren’t really "the smartest guys in the room."  

    We have to stop giving these letters any importance or significance. These letters are designed to protect the lender and they commit the unforgivable sin of giving false hope to borrowers.  It raises the expectations borrowers have and at the last minute when their loan is denied, it provides the lender a perfect defense.  

    If you are a real estate agent, you need to realize how worthless all pre-approval letters are.  If you do, perhaps you guys will stop asking for them.  To you borrowers out there, you need to understand how absent any true power it has.

    A much better alternative would be a proof of funds. You, the buyer, take a screenshot of your bank account that shows the seller you have enough to close on the property.  Show the seller you have the down payment plus some amount of money for closing costs.  Of course, blackout account numbers and transactions you don't want anyone else to see.  But at least show that you have the money right now to do this.  Your chances of getting an offer accepted are going to be significantly higher with this one simple change.