Self-Employed? How to Prepare for the Mortgage Process
While being your own boss comes with numerous advantages, securing a mortgage as a self-employed person can bring additional considerations to the process.
To prove your monthly income, you simply give your bank a copy of your pay stubs, along with your latest tax return.
Since a self-employed mortgage applicant doesn’t receive pay stubs from an employer, lenders must perform a different level of due diligence. Fortunately, with the right preparation and an understanding of the mortgage process, you can easily apply for a mortgage and make your homeownership dreams come true, even if you run your own gig.
Applying for a Mortgage as a Self-Employed Individual: Tips for Success
To apply and qualify for a mortgage as a self-employed individual, there are a few key steps you should take. First and foremost, it's essential to build a strong credit profile.
Your lender will need to see that you meet minimum credit standards, which vary depending upon the type of loan.
Next, keep detailed financial records. As a non-W2 employee, it's crucial to maintain accurate and organized financials of your business income, expenses, and tax returns. A lender will need to see documentation of your financial stability to approve your loan.
For those in the self-employed bracket, that means two years of tax returns demonstrating a profit. Your bank will then use this information to determine your monthly income.
For added advice and support, consider working with a loan officer who is experienced in assisting self-employed individuals. A loan officer who has worked with business owners will help you navigate the complexities of the mortgage application process and understands how to present your financial situation in the best possible light to increase your chances of mortgage approval.
Mortgage for the Self-Employed: Thinking Ahead
Since your bank will need to see a minimum of two years’ worth of tax returns before they can evaluate your mortgage application, you might have some time to prepare for the process. As you get your documentation together, there are additional guidelines to keep in mind.
First, let your accountant know that you plan to obtain a mortgage in the near future. Often, your financial professional will advise you to take certain tax deductions. While these may reduce your overall tax burden, deductions may also decrease your recorded income.
If the income declared on your tax return is too low, you might not qualify for the mortgage you want. By alerting your accountant ahead of time of your intent to buy a home, they can provide the appropriate advice to help you meet your income eligibility requirements.
Second, think carefully about the debt and liabilities you personally assume. For instance, if you own a roofing business, you may need to buy vehicles. If you buy the vehicle with a personal loan, that debt will be considered when evaluating your mortgage application. Since lenders like to see that your current debt-to-income ratio remains around 40%, a personal loan for a business expense could count against you when obtaining a mortgage.
On the other hand, if you purchase the vehicle using a business loan, the debt becomes a business expense. While payments are deducted from your overall company revenue, they do not count as a personal liability and won’t be considered when evaluating your mortgage eligibility.
Lastly, if your current financials don’t seem to be working in your favor, talk to your loan officer. Under certain circumstances, such as when a business is anticipating large influx of accounts receivable, they may be able to work with you to get your loan approved.
To put this in perspective, let’s say a storm goes through an area creating a large swath of damage. A savvy roofer understands that this means “business opportunity,” so he purchases a large amount of shingles in advance to take advantage of volume discounts.
Unfortunately, customers don’t pay until the job is complete, leaving the substantial purchase as an outstanding accounts payable item. However, if the business owner can demonstrate a significant value of accounts receivable from new roofing clients, the bank may be able to use a percentage of this as proof of income.
Self-Employment Doesn’t Have to be a Problem When Getting a Mortgage
Qualifying for a mortgage as a self-employed individual may present additional considerations, but it's important to remember that it’s still entirely possible. By taking proactive steps such as building a strong credit profile, keeping detailed financial records, and seeking assistance from experienced professionals, you can navigate the mortgage application process with confidence and achieve your ambition of owning a home.
The articles in this blog are for informational purposes only and not intended to provide specific advice or recommendations. When making decisions about your financial situation, consult a financial professional for advice. Articles are not regularly updated, and information may become outdated.