Pre-Approvals, are they valid?

Good ol Pre-approvals. This term is thrown around in our industry quite often, and many believe that this gives them the right to go out and start making “subject free” offers with confidence. I assure you that this is not something anyone should do without consulting with their mortgage professional first.

Short Version

A mortgage pre-approval is simply a rate hold.
A second alternate credit report can be accessed by the lender/insurer, and its contents can crush a deal.
A mortgage pre-approval is not fully underwritten, and it’s not guarenteed financing.

Long Version

The pre-approval process is pertinent to both you and your Realtor, but the actual term “pre-approval” is misleading.

There are still a number of variables that can occur once your offer is accepted. It’s important that a clause is put in your offer saying something like ‘subject to receiving and approving financing’. (Ask your Realtor to re-word if necessary).

I find that many of my clients are reluctant to write an initial offer on a property without feeling 100% pre-approved. There is no 100% until the property is selected and confirmed by the lender of choice. Many falsely believe that they have a guarantee of financing. They don’t. That is not at all what a pre-approval is.

A lender must review all property related documents, not just those of the clients, but also those from the appraiser and the Realtor. The property itself must meet certain standards and guidelines.

A pre-approval involves review and analysis of the client’s current credit report; it should also include a detailed list of all documents that are required if an offer is written and accepted. You should also have a clear understanding of the maximum mortgage amount you qualify for, and know of other various related costs involved in the specific real estate transaction.

Why doesn’t a lender fully review and underwrite a pre-approval?

Lenders do not have the staff resources to review ‘maybe’ applications. If your deal is rejected, well, they just did their job for nothing. They are busy enough with their “live” deals
Your current job may not be the job you have by the time you write your offer, thus verification of employment is delayed.
If more than four weeks have pass, all of the documents are stale dated – by lender standards – and new docs need to be collected, and reviewed.
The conversion rate from pre-approvals to ‘live transactions’ is less than 10%. Imagine working for ten days and being paid only for one.

This last point makes it so difficult to get an underwriter to completely review a pre-approval application. Although it can be done on a very limited basis.

Another Caveat

If a client is purchasing a property with less than 20% down, a pre-approval becomes much weaker. With less than 20% down, there’s a mortgage insurance requirement, and additional underwriting must be completed by CMHC, Genworth or Canada Guaranty. This means we need not only an approval from the lender, but also the insurer. All too often the insurer will get a second, alternate, credit report from TransUnion. This report, not accessible during a pre-approval, will reveal an entirely set of problems. For example:

A phone bill you ‘disputed’ and did not pay for
The department store credit card annual renewal fee that you ignored
The out of province parking tickets

Such trivial sounding items can cost you the opportunity to qualify to buy. Without full disclosure by the client, these issues simply do not arise until an actual purchase contract has been submitted. For reasons stated above, writing a subject free offer is risky for a client with less than 20% down. Overcoming obstacles with one underwriter is one thing, overcoming them with two underwriters is another. A client’s greatest asset for confidence when making an offer is the educated and experienced opinion of their Mortgage Broker and Realtor.

The most significant factor in undermining the solidity of a client’s pre-approval is the relentless pace of change in lending guidelines and policies. Change implemented not only by the Federal Government, but also by the lenders themselves. It’s common to have a pre-approval for a certain mortgage amount rendered meaningless through changes to internal underwriting guidelines. Often these changes arrive with no warning, and pre-existing pre-approvals are not grandfathered.

All this being said, proceeding with the pre-approval process is essential prior to writing offers as it will give you a strong understanding of your maximum mortgage amount, and secure a rate for you. It’s worthwhile, but it does not put you in the position of strength that you may have expected.

Please remember, a pre-approval is not a 100% guarantee of financing.

Feel free to call or email me if you have any questions.

Best,