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Documents self-Employed Borrowers Need to Get a Mortgage

Self-employed borrowers experience the same loan process as people who receive a wage or salary. However, the income of self-employed borrowers’ is calculated under strict regulations for residential mortgages. Lenders want assurance that the borrowers can prove that they have a stable income and will be able to make their payments on time.

Have Your Documentation Ready

The mortgage process requires a lot of documentation and even more for self-employed borrowers. Borrowers need to have proof of at least 2 years of self-employment history. Borrowers may also provide 12-24 months of employment history in a similar prior field of work as an alternative.

Borrowers are also asked to provide 2 years of tax returns (add back depreciation, non-recurring expenses), unless declining income. In limited cases, borrowers may only be required to provide only 1 year of tax returns. Alternative programs for when tax returns don’t show enough income include Bank statement programs and Asset Depletion (Assets as Income).

Additional Documentation is Needed When:

  • There is a business debt in the borrower’s name
    • Must have no history of delinquency
    • Business has to provide evidence the debt is paid out of company funds (12 months canceled checks)
    • Take the debt into the Cash Flow Analysis of the company (generally confirm it is on Tax Returns/P&L)
  • Borrowers are employed by Family:
    • Require 2 years Tax Returns
    • Will analyze income history to ensure consistency. There can be issues if the borrower was recently given a raise in an amount to help qualify for the mortgage.
  • A borrower has recently sold a business:
    • Limited to No “documentable” source of income per guidelines
    • Alternative programs have higher interest rates/down payment requirements

Don’t Mix Business with Personal

A common misconception among self-employed borrowers is that their gross income or revenue is used. Instead, the net income after debts and liabilities is used to calculate income. 

Generally, business assets are not included in the evaluation. If a borrower needs to use business assets for down payment, closing costs, or reserves, a cash flow analysis must be completed to confirm that withdrawing the funds won’t negatively impact the business. Underwriters usually will require information on “Mortgages, Notes, and Bonds Payable in less than 1 year” in order to perform the cash flow analysis.

Get Help From an Expert

A home is the most expensive purchase you are likely to make in your life. Consulting an experienced professional such as a Certified Public Accountant (CPA) is recommended. Issues can arise during the loan process and having someone, in addition to your loan officer, to help guide you along the way is beneficial. Potential issues that may require help from a CPA include:

  • Declining Income:
    • Require an analysis of the stability of income, including trends and YTD stabilization
    • May need a CPA letter identifying/confirming fact
  • Clarification of Items on a Tax Return:
    • Verify authenticity of “Other Expenses” that may not be reported on a tax transcript
    • Provide clarification on the nature of expenses or income needed to qualify
  • Expense Factor Letter when using a NonQM Program:
    • Bank Statement programs need a letter from a CPA stating an “Expense Factor” for the business if we are using Business Bank statements to qualify
  • Other Letters of Explanation:
    • When using Business Assets – “withdrawal will not negatively impact the business”
    • When using K1 Income from borrower who owns <25% of a company – “confirming business has enough liquidity to support the withdrawal/continuation”
    • Short Term Liabilities – “these obligations roll over regularly and/or business has sufficient liquid assets to cover them”

Compiling the necessary documentation for a home loan is tedious, especially for self-employed borrowers. If you know that your business had big changes in income over the past year, you have two choices: You can roll the dice and hope the numbers come up in your favor, or you can be proactive by providing explanations from a CPA and documentation to support all those changes.

In any case, you’ll want to work with a loan officer who has experience working with self-employed borrowers. Contact us to be paired with a loan officer that caters to your special needs.

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