What is a Pre-Approval Letter?
This document is a thumbs-up from a lender indicating that you are eligible for a specified loan amount at a specified interest rate based on your documented income, assets, liabilities and credit score that you provided to the loan officer.
It informs you of the maximum amount you can borrow. This is vital information for a number of reasons. First, it gives you a home-buying budget so you won’t waste time looking at homes out of your price range. Next, a pre-approval letter impresses home sellers – it shows them you are serious about buying a home and the fact that you’ve started the loan process means a more streamlined escrow process.
Debt-To-Income Ratio (DTI)
The ratio of your total monthly financial obligations to your gross income is known in lending circles as your “debt-to-income ratio, or DTI for short. It plays a big role determining your maximum loan amount.
For example, if you have a salary of $10,000 per month before taxes, and your monthly debt payments (such as car payments, mortgage and other loan payments, child support and alimony payments, etc.) total $4,000, your DTI would be 40 percent. ($4,000/$10,000 = 0.4).Most lenders require that your DTI be 40 percent or less. This doesn’t mean you can’t get a mortgage if yours is higher, but you may have to pay a substantially higher interest rate or submit a larger down payment. It mostly depends on the strength of other information in your credit application
Your total monthly mortgage payment is comprised of four factors: principal, interest, taxes and insurance, or PITI for short. Your loan officer will provide you with an estimated total monthly payment to cover your loan.
Note: If your loan terms entail mortgage insurance, then you’ll need to include the amount into your monthly payment as well. This insurance is required by lenders (with the exception of Veterans Administration loans) when your down payment is less than 20 percent of the sales price of the home.
Types of Loan Programs
1.Conventional Loan: Down payments start as low as 3 percent for borrowers who plan to occupy the home and 20 percent second homes and investment purchases.
2. FHA Loan: Down payments start as low as 3.5 percent. A borrower may be eligible even with a FICO credit score of as low as 580, but it depends on the lender. The FHA requires borrowers to pay monthly Mortgage Insurance Premiums (MIP) which serve as an insurance policy for the program. Unlike conventional loans in which the PMI is removed when the borrower achieves 20 percent equity in the home, FHA’s MPI remains for the life of the loan. Note: The condo complex “FHA-approved” status must be current on the HUD Portal.
3. VA Loan: This is a zero down payment program for active-duty military members, veterans and eligible widows and widowers. Note: A condo complex must be listed as “VA approved” on the Veterans Information Portal.
4. Other Types: Special programs available from private lenders including hard money loans, foreign national loans and even investor cash flow loans and special programs for medical professionals (physicians, dentists and veterinarians).