Prequalification

Prequalification summary:

• Prequalification is a preliminary lending decision based on limited, unverified information. It's a fast way to determine if you're likely to be approved for a loan.

• Prequalification is not a commitment from the lender and does not obligate you to borrow money.

• The stronger your credit, the more likely you are to prequalify successfully.

Prequalification Definition and Meaning

Prequalification is a process in which you provide basic information to a lender to see if you're likely to be approved for financing, and to see what terms might be offered to you.

Types of Prequalification 

It's common to prequalify for many types of financing. For instance:

• Mortgages

• Personal loans

• Auto loans

• Credit cards

• Debt consolidation loans

For products like personal loans and credit cards, the creditor might generate an offer with terms based on your prequalification. If you accept the terms, you'll roll right into the formal application and authorize a hard credit pull. The entire process might only take minutes. Mortgages, on the other hand, involve multiple steps. You might prequalify to see how much you can afford to borrow, to compare rates from multiple lenders or to show home sellers that you're a serious buyer. You might proceed with a formal application after you've chosen a lender or found a property.

Comprehensive Breakdown of Prequalification

Prequalification is a quick and dirty way for you and a creditor to see if you're likely to get approved before you go through a formal application. This allows you to save time, avoid unnecessary hard credit inquiries and get a quick idea of how much you can afford to borrow. 

Prequalifying starts when you provide some basic information to a creditor—for instance, your income, employment, desired loan amount and loan purpose. The lender or credit card issuer usually performs a soft credit report inquiry, which does not impact your credit scores. The company reviews your finances (this may happen electronically) to see if you meet its criteria to borrow money or receive a line of credit. The information that's looked at will depend on the type of loan you seek. 

Sometimes, you might be prequalified without asking. A credit card company, for example, might check your credit score with a soft inquiry (which doesn't require your permission) to see if you're a good candidate for one of its cards. It might then send you an offer to apply. 

When you apply for a loan or credit card, it creates a hard inquiry on your credit report. Each hard inquiry can cause your credit score to drop a few points. 

You should also know that prequalification for a loan or credit card is not an official approval, nor does it guarantee that you'll be approved if you formally apply. However, if you're prequalified for a loan or credit card, there's a good chance that you'll ultimately be approved if your financial situation does not change for the worse.

If you want to increase your chances of getting prequalified for a loan or credit card, your best bet is to maintain a high credit score, or to work on improving your score. You can do either by paying all of your bills on time, maintaining low credit card balances relative to your total line of credit, and checking your credit report often for mistakes.