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Can I Get a Mortgage Pre-Approval in a Recession?
Why It’s Harder (But Still Possible) to Get a Home Loan in This Economy
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Given the state of the economy right now, many people are wondering if they can get a mortgage pre-approval during a recession.
While it is still possible, it’s worth finding out what a mortgage loan pre-approval is, why you need one, and how hard it is to receive one during a downturn in the overall economy.
What is a Mortgage Pre-Approval?
First, I want to make it very clear that a mortgage pre-approval is not a loan. It’s also not a promise that you will receive a home loan either.
To put it a little more simply, a mortgage pre-approval is like a precursory screening method.
While prescreening, lenders will quickly look at your monthly income, debt-to-income ratio, and house-to-income ratio to determine if you may be eligible for a home loan.
If you pass their prescreening methods, lenders will then issue you a pre-approval letter.
All this letter says is that you’ve spoken to a lender and they have run some rough numbers to estimate how much of a loan you may be eligible for.
That’s it. That’s all it is.
It’s important to know that even if you are pre-approved for a mortgage, there is no guarantee that you’ll be granted a loan when you do apply for a mortgage.
In fact, you don’t actually know if you will get a loan until you’ve closed the deal on your house. You can take my word on this — I unfortunately have firsthand experience with deals falling through for lack of funding.
Why Do I Need a Pre-Approval Letter?
Despite not being formal proof that you are guaranteed a home loan, pre-approval letters are still required in most home purchase transactions.
There are several reasons for this.
One being, it’s a good way to know how much house you can afford.
The second being that pre-approval letters are instrumental in deterring and preventing fraud in the industry.
Real estate buyer’s agents may require you to show them a pre-approval letter before they show any homes to you. They want to make sure that you’re serious about buying a house and that you’re not just wasting their time or the sellers’ time.
Seller’s agents may also request on behalf of their client that you provide a pre-approval letter along with your purchase offer. Again, this is to prove that you are serious about a purchase and that you have talked to a lender that may be willing to underwrite your loan.
As you can see, unless you are paying “all cash” for a house, a pre-approval is an absolute necessity.
Can I Get a Mortgage Pre-Approval in a Recession?
At the time of writing this article, whether the US is in a recession or not remains up for debate in many circles.
While governing bodies have not yet put the “recession” label on our current economy, the fact remains that we are in a “technical recession”.
In response to rapid inflation the US Federal Reserve took action which not only slowed the economy down, but created negative GDP growth for two consecutive quarters (about six months). This is the traditional definition of a recession.
Unfortunately, the actions that the Federal Reserve took have far reaching effects that impact your ability to get a mortgage pre-approval. So let’s take a look at what happened.
Fed Rate & The 10-Year Treasury
The Federal Reserve’s number one tool in combating inflation is the Federal Funds Rate (Fed Rate).
To fight inflation the The Federal Reserve raised the Fed Rate which directly affected the 10-Year Treasury Bond Rate.
I know you may be wondering why this is even important, but it is — I promise.
Mortgage interest rates are directly affected by the 10-Year Treasury rate.
So, every time the Federal Reserve raises the Fed Rate, mortgage interest rates are indirectly increased as well.
All of this affects home price affordability and whether or not you can get pre-approved for a mortgage.
Interest Rates & Home Prices
It might not seem like it at first, but interest rates and home prices are somewhat connected.
I suppose I should add that If you’re not familiar with interest, you should know that this is the fee that lenders charge homeowners to make a profit. They do this by charging borrowers a percentage of the remaining principal balance on the loan.
Generally, the higher the home price, the larger the loan; the larger the loan, the bigger the interest payment.
For example, 3% interest on a $100,000 home would work out to be $3,000 in interest payments annually. However, 3% on a $200,000 home would be $6,000 in interest payments annually.
So you can really see just how much the price of your home, the interest rate you receive, and your remaining balance all work together to determine your monthly payments. It adds up quickly.
Home Affordability & Mortgage Pre-Approval
As home prices and interest rates rise to near record levels, home affordability is dropping too.
People who were eligible to buy a home six months ago are now finding that they have been priced out of the market all together.
This is because for every percentage point that mortgage interest rates increase, the price point that buyers can afford gets lower and lower.
This makes the likelihood of being granted a pre-approval much less of a reality.
When lenders calculate how much of a monthly payment you can afford, you might find that you can’t afford anything at all.
Will Home Prices Fall?
Don’t worry though, all is not lost. Actually, relief seems to be right around the corner.
Right now, we are just starting to see the beginning of a significant price correction within in the real estate market — nationwide.
This means that because demand has been so low, overall housing inventory has increased, and prices are going to have to come down before people start buying again.
In fact, industry analysts expect some local markets in the US to see a 25% to 30% percent drop in home prices.
Just know that this doesn’t usually happen right away. Real estate tends to be very slow when it comes to market adjustments. This is in part because it can take 30 to 60 days for many home sales to close and provide comparable data.
So What Do You Do?
All this really means is that time is on your side.
Even though at this moment you may not qualify for a mortgage, you might actually qualify for one in three to six months or more.
By that time, home prices are likely to have come down too.
It’s also possible — but not guaranteed by any means — that interest rates could ease later this year or into the next as well.
So the best thing you can do is wait. Have patience. Cut your spending down as much as you can, and stockpile as much cash as you can into a high-yield savings account.
If you do that, you’ll be ready to take advantage of the situation when the time is right, and you’ll potentially qualify for a loan on better terms than you would have otherwise.
Oh Hey, It’s Ray is a real estate investor, entrepreneur, and former real estate agent. She lives happily with her husband and two children in the Pacific Northwest. See more from Ray at her YouTube channel and on Ohheyitsray.com