Home Loan Preapproval - A Tale of Three Buyers

Getting preapproved for a loan is like flossing. Everyone knows they should, not everyone does it.

A Preapproved Home Loan is a Good Idea

Getting preapproved is a good idea. It saves you time, because you know exactly how much house you can afford in advance. Do you have to spend that much? Of course not -- you can get preapproved for $400,000, and only buy a $300,000 home. It's your money, after all. If you do decide to buy less, preapproval gives you a good idea in advance what your rate and fees are going to be, so you can better control how much your payment will be. If you want as much home as you can afford, preapproval tells you what that upper limit really is.

More importantly, getting preapproved strengthens your negotiating position. To give an example, I once represented a seller who received three virtually identical offers (they differed by only about $500 when all the terms were added up). The first thing the seller said after I reviewed the offers with her was "are any of them preapproved?" I'd already asked the buyers' agents that very question -- none of them were, though each agent had mentioned it to her client.

Like most sellers (maybe all of them), this one wanted as much money as possible, and some assurance that the buyer can "perform", i.e., close escrow. The point here is that the pre-approved buyer probably would have gotten the house. As it was, the seller decided to simply go with the first offer that had come in, though I suspect that in this case even if the preapproved offer had come in somewhat lower, the seller would have chosen that one.

If it's such a good idea, why don't people do it?

I had a college professor who once asked his class "How many of you know you should floss your teeth" Naturally, most of us raised our hands. Then he asked, "How many of you DO IT?" All but one or two hands went down.

Getting preapproved is the real estate equivalent of flossing -- I can tell you to do it, but many of you won't. Remember, of the three buyers who weren't preapproved, all of their agents had asked them to do it.

I've spent a long time thinking about why that is, and I think I'm starting to understand the reasons for this.

• First, when a Realtor tells a client they should get preapproved, the buyer may think the Realtor's saying that to serve the Realtor's own interests. And you know what -- to some extent that's true! Spending a few days taking someone around to look at $500,000 houses, when all they can afford is $275,000 would be fine if you were making a salary, but real estate almost without exception is a straight commission business. After you get over the joy of meeting nice people, the thrill is gone.
• Secondly, buyers don't realize how it's in their own interest as well -- not just in their Realtor's interest. As our tale of three buyers illustrates, sellers want peace of mind and money. As a buyer, if you want to save money, your strategy is to give the seller more peace of mind.
• Third, many buyers are -- to some extent at least -- afraid of buying a house. Let's face it, buying a house is a lot bigger deal than buying a hamburger, so people are very careful about it. Psychologically, not getting preapproved is a way of being careful -- after all, you can't buy too much if you don't have money "in your pocket". The problem is, most folks are only careful in their buying process until they find a house they fall in love with -- then they WANT it. Of course, now it's Sunday afternoon at 4:30, and the lender's off watching football. So you're now faced with making an offer to a seller -- and remember what the seller wants? Right, money and peace of mind. Well, you can't give them peace of mind because you're not preapproved yet. But you WANT the house now -- so you offer more money to get it.
• Finally -- and I think this is a factor almost as much as being careful about buying is -- shopping for a home is shopping, after all, and it's fun! Indeed, some people (my wife included) go to open houses for a Sunday afternoon entertainment. Getting preapproved, on the other hand, involves a little bit of that nasty of nasties -- paperwork! Paperwork, yuck! Let's go look at houses. But remember, if a half hour of preapproval form lets you negotiate $1,000 off the house -- you just gave yourself an hourly wage of $2,000 per hour. Unless you're already a brain surgeon, that's not a bad little raise.