You may be aware that buying a home if you are self-employed may be a bit more challenging. A self-employed person will have to jump through a few more hoops than someone that is a W-2 employee as you validate income and work history but it is all worth it in the end. Here is a closer look at what is required.
Everyone who buys a home that needs a loan will have to go through a mortgage qualification process. These lenders will look at your debt-to-income ratios along with your credit to assess your overall financial profile. However, those who are self-employed tend to have more fluctuating incomes so there typically will be more questions or documentation required to research the stability of the business.
Most lenders will insist on a paper trail to prove a two-year history of employment. This will be in the form of tax returns for the past two years to show proven income. Depending on how your business operates a statement may be asked of your accountant proving income as well as recent bank statements.
The time needed to process the application for a self-employed person should typically be about the same as a traditional borrower, but sometimes collecting all of the necessary and additional documentation can drag things out just a bit.
Whatever you collect for money is looked at whether it’s regular checks or tips. What lenders want to know is what your typical income is and how stable it is.
How lenders view your income
Lenders will look at your net income rather than the gross income of a W-2 worker. The reason is because generally those who are self-employed will sometimes take advantage of strategic tax breaks to show a lower income resulting in lower taxes they have to pay. However, this can be a trade off when it comes time to qualify for a mortgage. If you know you are planning on buying soon, consult with your accountant on best practices.
What if you are not approved
There are many reasons why anyone can get turned down, not just those who are self-employed. It could be from bad credit, a high debt-to-income ratio or inconsistent income. You can either wait until your situation improves or you could apply for a bank statement loan. This type of loan uses an average of deposits instead of the usual tax return calculation. Just note these loans don’t have any of Fannie Mae or Freddie Mac’s guardrails. Rates can be higher along with other less than appealing features so this may be a last resort option.