Steps To Qualify For A Mortgage If You’re Self-EmployedBy Mortgage-Guy On September 14, 2012 Under Credit, Credit Scores, FHA Loans, Mortgage Rates, Mortgage:Refinancing
As a small business owner you may have been able to avoid or survive the latest downturn in the economy. For that alone you may feel that you are a good candidate for a mortgage. Even with good credit and sufficient assets, though, you’ll find that even the best mortgage lenders will require you to produce your tax returns and possibly a quarterly profit-and-loss statement in order to establish that you have sufficient income to make your mortgage payments.
Most mortgage applicants today are prepared to go through a many more hoops to qualify for a mortgage, but if you’re self-employed you may need more than a quick comparison of the best mortgage rates to find the best mortgage for you. If you’re new to self-employment, you will need to wait until you have two years of tax returns filed before you can be approved for a new mortgage in order to include your self-employment income in your loan application. There are few exception to this rule anymore. Gone are the days of “Low or No Income Loans”.
All borrowers today need good credit, with a score of at least 640 or above for a Federal Housing Administration (FHA) loan and a score of 740 or higher to be offered the best mortgage rates for a conventional loan. I’m sure some of you are going to say that FHA has lower scores. However, you will be hard pressed to find lenders willing to make the loan for fear of having to buy the loan back for flaws in the file. Most lenders consider self-employment income as a higher risk than regular paychecks(I know, it doesn’t make sense), so a higher credit score can offset your potential risk factors and give a lender greater confidence when qualifying you for a loan. Check your credit report to see if you have negative information that can be corrected or improved before you apply.
Low Debt-to-Income Ratio
Lenders typically like to see an overall debt-to-income ratio of 38% or less, although borrowers with other compensating factors may still qualify for a mortgage with a ratio as high as 45%. You can use a mortgage calculator to estimate your housing costs along with your other debt. If you can pay off some bills to reduce your debt-to-income ratio that can be another compensating factor in your favor. Remember that even if you pay off your credit cards each month, lenders will count the minimum payments against you unless they have a zero balance on them when the lender pulled your credit report.
Many self-employed individuals reduce their income for tax purposes by deducting business expenses. Be aware that your income for a mortgage loan will be the NET income stated on your tax returns. So if your income is too low, you may qualify for a smaller mortgage amount than you thought. Your income will usually be the average of your two most recent tax returns, even if you made more money this year than last year, it may not matter to your lender. Lenders often require a quarterly profit-and-loss statement in addition to your most recent tax returns. New rules from the FHA say that self-employed borrowers are required to prove their ongoing income in the form of a year-to-date profit and loss statement if more than one quarter has passed since the last tax return was filed. If you income is lower on the most recent tax return they will probably not average it but use the lower year income. They will also ask for an explanation to try to understand if your income will continue to decline.
If you are refinancing, your mortgage will be based on the amount of your home equity. The lender will look to see what assets you have. If you have minimal assets you might find it hard to refinance. The lender will want to make sure you have enough liquid assets to operate you business and to fall back on in case there is a decrease of your income or an emergency.
The Bottom Line
If you are self-employed and have solid income, assets and good credit, you are likely to be able to qualify for a mortgage as long as you wade through the mounds of documentation needed to your lender and are patient.