You just booked an under-construction property. You spent months finalizing the right property for you. You paid the booking amount from your own pocket. For the remaining purchase amount and construction linked instalments, you are banking on a home loan. Unfortunately, your loan application gets rejected or the bank is not willing to sanction the requested amount. The reasons could be wide-ranging. There may be issues with property documents, developer, your credit score or even your income. Whatever the reason may be, you are in some serious trouble. You always have an option to apply to another bank for loan. However, the same issues may crop up there as well. Now, either you have to manage funds on your own (which is almost impossible for a middle-class family) or you have to cancel the deal. Don’t expect the builder to refund your booking amount.
What can you do to avoid such a scenario? You can apply for a pre-approved loan when you begin your search for the property.
What Is a Pre-Approved Home Loan?
A pre-approved home loan is an in-principle loan approval from the bank. i.e., the bank promises to give you the loan without even considering the property you want to purchase. The quantum (sanction) of pre-approved home loan is decided based upon your repayment ability and your credit worthiness. Therefore, the bank will decide the quantum of your loan on your income levels, other loans etc.
The bank looks at two things while sanctioning a home loan to you.
- Your repayment ability and creditworthiness (this is checked during sanction of pre-approved loan)
- Quality/genuineness of the project/property (this is not looked at during sanction of pre-approved loan)
Therefore, by opting for a pre-approved loan, you are essentially splitting the loan sanction process into two parts. If you have a pre-approved loan, you can be sure that your final disbursal/sanction will not be stopped because of the issues at your end (income, credit score etc). Do note it may be stopped for other reasons (discussed later).
What Are the Benefits of Pre-Approved Home Loans?
Purchase of a house is a big-ticket item for almost all of us and we have to take out a loan for the purpose.
- If your loan is pre-approved, you know your budget. It is easier to identify deals that fit your budget.
- You avoid the risk, to some extent, of not getting a home loan after you have finalized the property. I discussed an example at the beginning of the post.
- To a seller, you may appear a more serious buyer. Moreover, the deal can be closed quickly. If you have a pre-approved home loan, you may be able to negotiate the price of the property better.
What Are the Issues with Pre-Approved Home Loans?
Even though you have the sanction, the disbursal is still subject to conditions. Therefore, even though you may have the pre-approved loan sanction letter with you, it is not guaranteed that the bank will disburse the loan. Why?
#1 When the bank pre-approved the loan, it considered your repayment ability. However, before it disburses the loan, it needs to be sure of the asset (house) too. Therefore, it is quite possible that the bank is not comfortable with the documents, project approvals etc. For instance, if the legal titles of the property are not clear or requisite approvals are not in place for an under-construction loan, the bank may refuse to disburse the loan amount. With the introduction of RERA (Real Estate Regulation Act), I believe the lack of Government approvals should not be a problem. However, don’t rule issues at the last minute.
#2 The pre-approval is only valid for a few months, typically six months. If you are not able to close the property deal within 6 months, you will have to forfeit the processing fees already paid. Moreover, you will have to go through the entire process again and perhaps even pay the processing fee again.
#3 Potential forfeiture of the processing fee may put pressure to close the deal within stipulated time.
Please understand different banks may have different policies about processing fee. Processing fee is completely bank’s discretion. Therefore, you may even have pre-approved loans where the processing fee is waived off. However, you need to be aware of this aspect.
#4 Avoid applying to multiple banks for pre-approved loans. Like any other credit product, a formal application sends a hard enquiry to the credit bureau and this can result in a lower credit score. As discussed in many of my earlier posts, a poor credit score can not only derail your loan application but also result in higher rates of interest.
#5 A pre-approved loan blocks your credit limits. Even though you have not taken any disbursal, the credit limits will be blocked to the tune of the sanctioned amount.
Should You Consider Pre-Approved Home Loans?
A pre-approved home loan has many merits. I see nothing wrong in applying for a pre-approved loan especially when the processing fee is reasonable. The bank where you have your salary account is likely to provide you a good offer. However, pre-approved loans are not for vanity and show-off. Apply only when you are serious about purchasing a property. Moreover, you must understand that it does not take out the entire uncertainty about loan disbursal.
On the other hand, if you have been keeping tab on your credit score and are sanguine about your loan expectations (with respect to your income levels), I believe you should be able to get a home loan when you apply.
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