Before shopping for your dream home or investment property, you will be encouraged to apply for a pre-approval. Pre-approvals serve as a worthwhile exercise to ensure you can borrow a pre-determined amount and therefore go shopping with a degree of confidence that your finance will be approved when you purchase. It’s important to understand the fine print so you don’t get caught out.
To provide you with a mortgage, the bank wants to know 3 things:
Can you pay? A pre-approval will validate whether your income is sufficient to cover any new loan repayments and existing expenses / commitments. Banks have a rule of thumb that mortgage repayments (principal plus interest) does not exceed 45% of your gross income.
Will you pay? This is where banks check your credit file and will want explanations of any listed enquiries. It’s strongly advised you check your file prior to submitting an application in case there is anything listed that could impact your ability to get approved.
What are we going to do if you don’t pay? In the event you do not repay your loan, the bank will take your property (recourse) and sell it to get their money back. The property you purchase must meet acceptable standards of the bank. Without having purchased, the bank does not know if your chosen security is something they would lend against. Before signing on the dotted line, it’s important you get as much information about the property as possible and ask the bank whether they would provide a loan on this property. Once you have purchased, banks will arrange an independent and certified valuation of your property to ensure it matches up with the purchase price.
Other points to consider:
Some banks do not offer a ‘formal pre-approval’. If they don’t seek verification of your income and savings for deposit but manage to provide you with an indication of your borrowing power then there is a chance you could still be declined when you purchase.
Pre-approvals are usually valid for either 3 or 6 months. If you don’t end up purchasing within this time frame your approval is void and you will have to go through the full process again when you purchase later on.
My advice is speak to a broker upfront on whether you should get a pre-approval.