"Guaranteed" Pre-Approval Letters

Porous Guaranty; or, "But, Can You Take it to the Bank?"

I feel the same way about "guaranteed" Pre-Approval Letters that I do about "guaranteed" pizza delivery or promises of "on-time" service calls by my cable company:

a) Officially dubious; and

b) Reminded of the reason companies (often) need to offer such promises in the first place, i.e., reputations for lacklustre and/or tardy service.

Standing Out From the Crowd

Which isn't to say that I don't understand what the lender is trying to accomplish.

Standard Pre-Approval Letters are widely understood to signify practically nothing.

In theory, they tell a Seller that the Buyer can afford to buy their home.

In practice, they commit the issuing lender to nothing, and are dispensed after obtaining the most basic information from the would-be borrower/home buyer.

Solving the Wrong Problem(s)

By contrast, as marketed by at least one local lender, a "Guaranteed Approval" loudly promises to pay the Seller an eye-catching amount -- $10,000 seems to be most common -- if the Lender fails to close the Buyer's loan.

The underlying message is clear: 'unlike the perfunctory financial screening performed by other lenders, we carefully qualify our Buyers.'

There are just two catches:

One. All the conditions -- in fine print, naturally -- that invalidate the guaranty, including "if the property is deemed to be in a declining market or if the investor guidelines change prior to closing"; and

Two. The Buyer's financial wherewithal (or lack thereof) isn't what's causing deals to tank these days.

Rather, the biggest obstacles to deals now seem to be unrealistic offering (and asking) prices, followed by low appraisals.

In the first case, the Buyer and Seller never come to agreement on price.

In the second case, the Guaranteed Approval is moot, because the terms contained in the standard Financing Contingency allow the Buyer to walk.

Ultimately, the best way to regard a Guaranteed Approval is like chicken soup: 'can't hurt, might help.'

Pre-Approval Letters & Written Statements

What Are They Really Worth?

Put it this way: the picture of toilet paper should give you a hint.

First, some background.

In Minnesota, the first things that typically lead off any offer to purchase residential real estate are the Buyer's earnest money check, and a pre-approval letter from a lender (unless the Buyer is paying cash).

The standard pre-approval letter recites that the lender has initially screened the Buyer's finances and credit scores, and, based on that quick review, says that the Buyer can afford the home.

In practice, a pre-approval letter almost always means . . . nothing.

Most lenders will issue them in less than 10 minutes on the phone with a prospective borrower, after collecting the most basic information.

Meanwhile, their express language explicitly states that nothing in the pre-approval letter obligates the lender issuing it to actually fund the loan.

The Written Statement

Which is where the Written Statement supposedly comes in (think of it as "the Final Approval" Letter).

Once the Buyer and Seller reach agreement on terms, the Purchase Agreement typically includes a Financing Addendum that calls for the Buyer to deliver a Written Statement within 2-3 weeks.

The standard Written Statement recites that an appraisal satisfactory to the lender has been completed; presumes that the lender has finished vetting the Buyer's W-2's, recent tax returns, and any other Buyer financial "bona fides"; and lists any outstanding conditions remaining -- usually pro forma ones, like the Buyer not blowing up their credit or losing their job.

Once the Buyer delivers the Written Statement to the Seller, the Buyer's loan is supposed to be finally underwritten -- and the Buyer's earnest money becomes non-refundable.

O-for-2

Except that in practice, that's not how it works today.

Now, skittish lenders can and do reserve the right to revisit the loan at any time up until closing.

They may request additional Comp's to substantiate the value of the collateral (the home being purchased); ask the Buyer for (still) more financial documentation; or tweak (tighten) their underwriting standards.

Or all of the above.

The result?

What was supposed to be a finally underwritten loan suddenly . . . isn't.

All of the foregoing means two things:

One. Buyers and Sellers today, especially when upper bracket properties are involved, should consider drafting custom language to address the Buyer's financial qualifications, and defining when their earnest money becomes non-refundable; and

Two. Sellers shouldn't load up the moving van until they know, for sure, that the Buyer's financing is good.

"Sale Fell Through! Back on Market!"

Cleaning Up After a Broken Deal

If you're seriously shopping for a home, you've undoubtedly seen one of these properties online.

And if you've been selling real estate long enough, you've almost certainly had it happen to you:

What exactly? A not-quite "done deal" . . . that came undone.

Background

First, a little background:

Listing agents typically switch a "for sale" property from "Active" to "Pending" status once the Buyer's Inspection Contingency has been removed (a home goes from "Pending" to "Closed" or "Sold" once the Buyer actually takes title and the Seller gets their money).

So, a deal that comes undone as a result of an inspection issue -- or multiple issues -- usually never goes "Pending" in the first place.

Rather, in today's housing market and economy, when a home that was formerly "Pending" becomes "Active" again, the reason is invariably financing-related.

Financing Issues

"Financing-related" as in, the Buyer couldn't get it.

Just because a bank has issued a pre-approval letter doesn't mean that the Buyer is home-free (sorry, bad pun).

The bank must still vet the Buyer's income and assets, verify the source of their down payment (if it's coming from a third party), and, perhaps most importantly, appraise the home to make sure the bank has sufficient collateral.

Even when all those hurdles are surmounted, if the Buyer loses their job or their credit suddenly deteriorates, the loan can (and does) go "poof!"

Possible Responses

If that happens, it's certainly possible to simply switch the property's status from "Pending" back to "Active."

And many Realtors do.

But the more common response is to explicitly acknowledge that there was a busted deal, in conjunction with a renewed marketing push.

There are two reasons for that.

One. The Realtor needs to find another Buyer!

Just like a price reduction, new staging, or some other change in the home's status, a busted deal ultimately serves as a pretext to re-contact anyone who's previously shown interest in the home (as well as attract the attention of people who've just started looking).

Two. Buyers are going to find out, anyways.

Depending on which online sites Buyers are looking at, or what type of MLS report their Realtor is sending them, the archived "history" of each listing is at most 3 clicks away.

In fact, that's one of the first things I like to look at, to find out whether a listing is fresh or stale, how long it's been since the last price cut (and whether another one is due), etc.

Coming clean about the busted deal helps defuse it, and lowers the odds that the next Buyer will get cold feet if they discover the busted deal later on.

I'm just not sure that I'd put it in boldface and italics -- with lots of exclamation marks (!!!) to boot.

P.S.: Although I (interchangeably) use the terms "busted deal," "broken deal," etc., the more accurate description for most of the foregoing scenarios is that the Buyer's financing contingency failed.

Foreclosure Snags & Delays

Dotting the Dots in the I's

The latest delay in a foreclosure deal where I'm representing the Buyer?

The pre-approval letter from their lender lacked the lender's signature.

The bank might as well have objected to the font type and size in my client's offer.

What's especially annoying is that the bank-owner was sitting on my client's offer a full two weeks before they decided they needed a signed pre-approval letter. (For the record, the required signature took about two hours to procure.)

Unfortunately, such slow motion, bureaucratic snags are typical in foreclosure deals.

Deal-by-Checklist

Holding up a deal for want of a would-be lender's signature is silly, because the Bank could easily have called the lender to verify the Buyer's financial bona fides (which is what I do when I represent Sellers). It's doubly silly because everyone knows that pre-approval letters don't mean anything.

They're not binding on the prospective Buyer, who's not obligated to use the lender that generated the pre-approval letter. And they're not binding on the lender, who's yet to perform the bulk of their due diligence.

All that really counts is whether the Buyer's loan gets final underwriting approval from a still-solvent bank, which in turn depends on how strong the Buyer is financially, and whether the home appraises.

But you don't get to any of those until there's a signed-off deal.

Which we're still waiting on.

Squeaky Clean Offers

That's why my routine advice to Buyers interested in a foreclosed home is to make their offer as simple and clean as possible, to minimize the potential for ridiculous, time-eating snags like this one.

(And no, I don't think anyone from the bank is reading this blog.)

P.S.: if there's an upside to any of the perfunctory, deal-by-checklist protocol the foreclosure banks all seem to be following, it's the "entry barriers" they present to any subsequent Buyers. In other words, flushing Buyer #1's offer means starting the whole, laborious process over with Buyer #2 (or #3 or #4 or #5 . . . ).

Call it the foreclosure equivalent of "dancing with the one who brung 'ya."

"Must Qualify with XYZ Lender"

Financing Games

If you've been hunting for a home lately, you've likely encountered it: the tantalizing new listing that requires prospective buyers to "qualify with XYZ Lender."

Which of the following choices is the best explanation for that:

A. The Seller wants to make sure that prospective Buyers can afford the home;
B. XYZ Lender offers the best terms on mortgages;
C. The listing agent is trying to drum up business for XYZ lender.

Answer: C.

In my experience, a pre-approval letter from a name lender, combined with a quick, agent-to-agent phone call ("do you really want to sell the home?") usually takes care of this financing "requirement."