Mortgage borrowers who are self-employed can apply for the same loans as individuals who are ‘traditionally’ employed. No special requirements are in place that make it more difficult for self-employed individuals to get a mortgage. As all applicants, you will be held to the same standards for debt, credit, income, and down payment.
According to Tundra Mortgage Brokers, documenting your income is the part that can be challenging. As a contractor, business owner, gig worker or freelancer, proving your cash flow can call for more paperwork than individuals who are W-2 workers. However, once you satisfy loan guidelines and can demonstrate steady and reliable cash flow, your status as a self-employed individual should not prevent you from refinancing or purchasing a home.
Mortgage Rules for the Self-Employed
The majority of mortgage lenders require a minimum of two years of consistent self-employment before a borrower qualifies for a home loan. A ‘self-employed’ person is defined by lenders as a borrower with an ownership interest of at least 25 percent in a business or someone who is not classified as a W-2 employee. Nevertheless, there are concessions with the two-year rule.
You could be eligible with only a year of self-employment if a two-year history in a comparable line of work can be demonstrated. You will have to document an equal or larger income in the new position in comparison with the W2 position.
There are lenders that will count a year of associated employment combined with a year of formal training or education as adequate work history. If you have been self-employed for under a year, it is quite unlikely that you will qualify for a home loan.
Requirements of Loan Programs
In addition to proving their employment history, self-employed borrowers need to meet standard loan program requirements. Guidelines vary by loan type; however, generally speaking, a lender typically looks at the criteria outlined below, in addition to your income and employment:
- Credit history
- Credit score
- Liquid assets and savings to determine ability to cove down payment and closing costs
- Current debts to determine debt-to-income ratio
In addition, lenders will analyze the property the borrower would like to purchase, along with his or her personal finances.
The property type and its intended use will impact the categories of mortgage loans for which you qualify.
Income Types Looked Over by Mortgage Companies for Borrowers Who are Self-employed
Typically, lenders will consider any income source deemed consistent, stable, and ongoing. This indicates different types of self-employment incomes are qualified for mortgage financing, to include:
- Freelance income
- Business owners
- Seasonal work
- Contract work
- Side jobs/gig work
These income types can be viewed on their own or as extra funds added to a main source of income. Sometimes, lenders will count unemployment income for seasonal or contract workers with a regular, proven history of getting unemployment during the off-season. Regardless of income source, lenders must decide whether it will be continuing.
Typically, this indicates the income is likely to remain for 3 years, at least, following closing. Therefore, your business prospects must be attractive. A record of declining income will lessen your chance with mortgage lenders.
For self-employed individuals, a lender might review the borrower’s business to establish its stability and the probability his or her income will be ongoing at the same level. If you are a borrower in a declining industry, like a home builder during a housing crash or a resort owner during the pandemic, your approval could be in jeopardy.
Documenting Income for the Self-Employed
Typically, self-employed individuals have to prove their income to lenders by providing the documents below:
- Business tax returns for a two-years period
- Personal tax returns for a two-year period
- Year-to-date P&L or profit and loss statement
- Balance sheet
- Business license
- Signed CPA letter outlining that you are still operating a business
An accountant, certified public accountant (CPA) or tax preparer can get these documents ready on your behalf. Tax professionals are utilized for these mortgage requests. In fact, a CPA might even be able to send all your required documentation to your email in a short period of time.
If you are operating a sole proprietorship business and not an S corporation, corporation or partnership, you may not be required to provide tax returns for your business. If your self-employment is with the same business for over 5 years, you may only be required to provide a year of individual and/or business tax returns as opposed to two.
For self-employed individuals who have an established history of paying themselves, there are mortgage guidelines that have been in place since June 2016, which dictate that a borrower is no longer required to demonstrate access to business income. However, the applicant might still be required to demonstrate that the business earns a sufficient amount to facilitate income withdrawals.
Inconsistencies in Income
If the income you earn is not reliable and regular, it will not typically be counted by the lenders. However, there are a number of businesses that experience ups and downs. For example, a home developer who is creating a new community may have lots of expenses in one year, purchasing property, pulling permits, and building homes.
This business could show big losses and little income. However, the following year, the houses are sold, and the income increases dramatically. If you make a loan application during a ‘down’ year, you will have to show the lender proof that you operate a healthy business and that this pattern is actually normal.
In such cases, tax returns for more than a two-year period could be required by the lender to prove the stability of your income. You should expect to provide the underwriters with three to five years of tax forms; you could also be required to prove this with a statement from your accountant. In addition, you should be ready to explain any major year-over-year reduction in income when you make an application for a mortgage as a self-employed individual.
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