Avoid wasting time on unqualified buyers. The preapproval letter is not confirmation that the buyer will get a loan. Assuming so is a huge mistake and will cost you time and money.
Something I have always stressed to my Baltimore-area sellers : an offer is only as strong as it's buyer. You don't want to waste time and money with an unqualified buyer. So, how do you spot an unqualified buyer? Don't rely on the prequalification or preapproval letter. Firstly, there’s a wide spectrum of what a lender requires in order to issue a prequalification or preapproval letter - in some cases, a buyer could get a letter simply by filling out a form. Secondly, there are certain conditions that may exist (that you may not be aware of) that must be met in order for the buyer to qualify for the loan. So what should you do to detect an unqualified buyer and why does it matter?
I've been in the Baltimore real estate industry since 2008. Prior to becoming a full-time realtor in 2018, I spent eight years operating a large rental portfolio consisting of more than 700 single-family homes in the Baltimore area. During this time I learned what it really meant to operate real estate, how to boost income and limit expenses to see the most profit possible. Now, I help sellers in the Baltimore area do the same when selling their homes. I tell them that a prequalification or preapproval letter does not mean that the buyer will be able to qualifiy for a loan and therefore purchase the house and that working with unqualified buyers can be a huge expense. You could waste time on a buyer who will never be able to close on the sale, leaving you to start all over again all while continuing to pay the mortgage, property taxes, insurance, utilities, while also maintaining the home. Here are the seven steps I take to properly determine the likelihood of a buyer closing on a loan to purchase the house.
But first, let's get this question out of the way :
What is the difference between a prequalification letter and a preapproval letter?
What is the difference and does the preapproval actually mean anything? Commonly, a prequalification is a lender’s belief that a buyer will qualify for a loan (sometimes based on information that was self-reported by the buyer) and an estimate of what the buyer could afford. Typically, a preapproval requires documentation from the buyer and carries more weight. I have recently encountered several lenders that use the terms interchangeably. Regardless, I do a careful review of the document and always contact the lender.
7 Steps To Determine The Likelihood That A Buyer Will Be Able To Purchase The House
Before I present any offer to my seller, I carefully review the preapproval letter and also call the lender. Here are the seven steps I take to verify if a buyer is likely to be able to purchase your home :
#1 - Is the preapproval valid?
The preapproval letter should have an expiration date on it and the date should not have lapsed.
#2 - What documentation has been collected from the buyer and when?
Generally, a lender needs these documents (at minimum) to understand a buyer’s ability to secure a loan and determine affordability. If these documents have not been collected and reviewed, I’d be skeptical.
- two years of tax returns
- two recent paystubs
- two recent months of bank statements
- asset report
- credit report – furthermore, I always inquire as to the date the report was run and ensure it was very recently
#3 - Is the lender aware of the house the buyer is writing an offer on?
Normally, a preapproval letter is generated prior to a buyer looking at homes. An inexperienced buyer’s agent may submit an offer on behalf of the buyer without notifying the lender. If the buyer is pursuing a home at the top of the price range and the home has high property taxes, condo fees, and/or HOA fees, these extra costs could rock the buyer’s budget, making the seller’s home unaffordable to the buyer.
#4 - Can the buyer afford the house given today’s mortgage interest rate?
Usually, the mortgage interest rate is not locked in until the buyer is under contract on a home. The mortgage interest rate is always changing, and it affects the buyer’s affordability. Simply put, when the interest rate is low, the buyer can afford to spend more on a home purchase. When the interest rate is high, the buyer qualifies for less on a home purchase. If the original preapproval was not just issued, it’s likely the interest rate has changed since it was generated. This again comes down to whether the lender is aware of the house the buyer is writing an offer on and if the buyer qualifies to purchase it given the present mortgage interest rate. #5 - Is the contract contingent on the sale of the buyer’s current home? Meaning, does the buyer have to sell the current home to be able to afford to purchase the seller’s home? If so, this adds an additional layer of logistics. Is the buyer’s home currently on the market? If so, what has the showing activity been? Has the buyer received an offer? Does the buyer have the home under contract to sell? If so, when is it scheduled to close? Has the purchaser of the buyer’s home been properly qualified for their loan? Does the purchaser of the buyer’s home need to also sell their home? If the buyer’s preapproval is contingent on the sale of their home, it’s my job to thoroughly understand the status of the home sale and the likelihood that the home will sell prior to closing. If it doesn’t, the seller’s closing can be delayed. Or worse, the buyer can back out of your contract because he or she couldn’t sell their home. In this case, the buyer would get his or her deposit back and the seller will have to start the process all over again. Again, time is money and if closing is contingent on the sale of the buyer’s current home, there are two sales to manage and the seller runs the risk that the buyer won’t be able to sell the current home. #6 - Is the contract contingent on the buyer obtaining program or grant funds? There are a lot of incentives available for buyers. There are programs that will front money for buyers to purchase a home and programs that will issue grant money for buyers to purchase a home. Sometimes, these programs will not fully commit to issuing the funds or grants until the property is under contract. As a seller’s agent, I need to understand and relay to the seller what is needed for the buyer to get the funds or grants and how likely it seems those monies will come through, and on time. In some cases, if the monies do not come through, the buyer cannot afford the house. Additionally, some of the programs will require a separate inspection to be done (and passed) in order for the monies to be released. This can potentially lead to more expenses for the seller if the seller is required to make corrections for the buyer to receive the funds or grant. #7 - Is the contract contingent on the buyer receiving gift money? Some purchases will only work if the buyer is gifted money toward their costs. For my sellers, I need to understand if that money has been received. If it has not, there becomes a concern that the person who committed to gifting it to the buyer will not come through.
Wait Until It's Right
I would not recommend that a seller contracts with a buyer who has not been properly qualified or who has conditions that seem unlikely will be met. That being said, if the buyer has not submitted proper documentation to the lender (which could mean the lender didn’t ask for it), I wouldn’t necessarily turn away the buyer altogether. I would suggest telling the buyer to submit proper documentation to the lender, making sure the lender thoroughly reviews the documentation and evaluates the loan with consideration of the home the buyer is pursuing, and then circling back to reevaluate the buyer’s qualifications. A motivated buyer will take action. If the buyer submits documentation and meets the qualifications for the loan and doesn’t otherwise have loan conditions that are concerning, it is possible that it will make sense to move forward with that buyer at that time, but not a moment sooner. Hold off on signing a contract and keep the house on the market until the buyer and lender have done their part and meet the criteria above.
On the other hand, if the buyer has submitted proper documentation and now does not qualify due to expenses on the seller’s home (high property taxes, condo fees and/or HOA fees, etc), the current interest rate, and/or the conditions of the loan (sale of current home, need for program funds or grants, need for gift money) seem unlikely, absolutely move on. The right buyer is out there and you may miss the opportunity to find that buyer if you’re busy wasting time with the wrong one.
Time Is Money
Failing to dig into a buyer’s ability to close on the loan is one of the biggest mistakes you can make when evaluating an offer on your home. Too many sellers get excited about receiving an offer and are quick to accept without doing the proper diligence. It can cost you. You could lose the sale entirely 30 or more days after accepting a contract and pulling the house off the market, only to start all over again. Furthermore, the back-and-forth trying to work through issues to get an unqualified buyer potentially qualified will be exhausting. If you work with me, I’ll do our homework upfront so we have a smooth transaction and a buyer that closes on time.