What Is a Mortgage Preapproval Letter?

Dated: January 7 2021

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What Is a Mortgage Preapproval Letter?

In a nutshell, a mortgage preapproval letter from a lender says you’re likely to qualify for a mortgage loan based on the financial information you submitted. The letter details how much money you could be approved for.

It’s important to understand that a preapproval isn’t the same as a mortgage approval—a preapproval isn’t a guarantee of funding. A preapproval letter is intended to give you a budget to work with during the process of looking for and buying a home. It also lets sellers know that you’re a good candidate to receive financing.

The preapproval process can vary from lender to lender. Some will only ask for basic info like your name, annual income, and credit score. Others may request documentation of your finances, and perform a credit check.

Reasons Why Lenders May Deny Preapprovals

Mortgage lenders may approve or deny your application depending on how much of a risk they consider you to be. In a recent study by the Consumer Financial Protection Bureau (CFPB) of 2019 mortgage-application denials, high debt-to-income (DTI) ratios were the reason behind about a third of mortgage applications being denied. Another main factor was poor credit history.  

A little more about DTI ratios. A debt-to-income ratio is the amount of your monthly income that’s used for paying debt. A front-end debt-to-income ratio is calculated by your estimated costs for housing divided by your gross income. A back-end debt-to-income ratio is the percentage of your income that’s used for paying housing costs, student loans, credit cards, car loans, child support, and revolving debt on your credit report. Typically, mortgage lenders like to see a back-end DTI ratio of 36 percent or less, although the FHA will accept a DTI ratio of up to 50 percent.

To learn more about DTI ratios, and to determine yours, visit sites like Bankrate.com and NerdWallet.com, which offer comprehensive explanations of debt-to-income ratios and have DTI ratio calculators you can use.

 

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