How To Get A Self-Employed Mortgage in 6 Steps
If you’re an entrepreneur looking to buy a home, you may need to file extra paperwork or meet special requirements to qualify for a self-employed mortgage. Here are six steps to help you prepare for the application process and boost your odds of success.
1. Determine if you need a self-employed mortgage
You’re considered a self-employed borrower if:
- You own 25% or more of a business
- You work as an independent contractor or service provider
- You work for a company that provides you with a 1099 tax form for your services rather than a W-2
- Your income shows up on the Schedule C section of tax returns (this applies to sole proprietors or entrepreneurs who own a business alone)
2. Check the self-employed mortgage requirements
You’ll still need to meet the minimum mortgage requirements that apply to all borrowers, but your lender will scrutinize your finances more closely because you’re seeking a mortgage for the self-employed. Guidelines vary from lender to lender, but the factors often used to determine the financial health and viability of your business include:
→ How the business operates. Lenders want to ensure that your business is financially sound. An underwriter may research the location and type of business you’re in, how much demand there is for your product and how likely your business is to stay financially strong and profitable.
→ Personal income vs. business income. If you’re using income from your business to qualify for a loan, your lender may want to see evidence that your business has a healthy cash flow and isn’t buried in debt. Personal income is typically verified with individual tax returns.
→ Your income stability. A lender may consider you to be at higher risk of missing mortgage payments if your earnings tend to vary from month to month. That’s why some lenders ask for additional proof that your business is stable and that you have enough cash flow to handle a lower-earning month.
→ How long you’ve been self-employed. A lender prefers for you to have at least two years of experience earning income from self-employment. The approval process may be simpler, however, if you’ve been in business for at least five years and can show steady or increasing earnings.
Is it harder to get a mortgage if you're self-employed?
3. Gather proof of your self-employed income
Lenders are likely to request documentation, including:
- Personal tax returns. Your two most recent tax returns help demonstrate steady self-employment earnings. However, some lenders may be satisfied with just last year’s tax return if you’ve been self-employed for at least a year.
- Profit and loss statements. Also called a P&L for short, this financial statement shows how much total profit you’ve made after subtracting your business expenses. Lenders expect these documents to show earnings similar to or higher than what you listed as income on your tax returns.
- CPA letters. Lenders may ask your certified public accountant (CPA) for a letter of explanation to verify your self-employment status.
- Documentation of business funds used for a down payment. If you want to use cash that’s in your business accounts to fund the down payment on a home, be prepared to provide extra documentation. You may need business bank statements and tax returns, as well as a letter from your CPA or tax lawyer confirming that taking the funds won’t harm the business.
- IRS transcripts. You may be asked to sign a form (IRS Form 4506-T) authorizing your lender to obtain a transcript of your tax return. They’ll typically use it to verify that the information you provided in your loan application matches what’s in the IRS database.
- Business tax returns. The business tax returns you need to gather will depend on how your business is structured. Here’s a breakdown of which forms you’ll likely need, depending on the type of business you operate:
|Tax return forms to provide
|Limited liability company (LLC)
|Form 1065 (or Schedule C if only one person owns the business)
|Form 1120S Schedule K-1s (to reflect your share of income)
There may be exceptions to these tax form requirements
Your lender may let you skip the business tax returns if you’ve been in business for at least five years, your income has grown over the past two years or you aren’t using any business funds for your down payment.
4. Learn how much of your self-employed income qualifies for a mortgage
Many lenders use Fannie Mae’s cash flow analysis Form 1084 to analyze self-employment income. What goes into your qualifying income varies depending on whether your business is a sole proprietorship, partnership or corporation.
Lenders want to make sure your business is healthy, so they may also review how much debt the business is taking on and whether the income is rising or falling from year to year. Even if a sudden drop in business income doesn’t affect your personal income, a lender could consider this a red flag in your financial future.
Do mortgage lenders use gross or net income for the self-employed?
To decide whether you qualify for a self-employed mortgage, a lender will evaluate your net income — your gross income minus the costs you incur for doing business.
Self-employed borrowers are sometimes confused by the term “gross income” because it’s calculated differently for people who earn wages than it is for the self-employed.
- Self-employed gross income is simply the money your business made before taking expenses into account. Your self-employed gross income is also known as your net business income.
- Salaried or hourly workers’ gross income is the money earned before taxes and other deductions (such as retirement contributions) are taken from a paycheck.
5. Shop for the best mortgage company for a self-employed borrower
As a self-employed borrower, you can access all of the most common types of mortgages that are available to waged workers, including:
However, you should ask potential loan officers if they have experience underwriting self-employed income. If they don’t sound confident, you may want to compare mortgage rates from other lenders until you find one that regularly deals with self-employed borrowers.
6. Review the alternatives to self-employed mortgage programs
If you’re looking into mortgages for the self-employed because you don’t have enough income to qualify for a traditional mortgage, you may want to explore nonqualified mortgage (non-QM) programs. Non-QM loans don’t meet the qualified mortgage standards set by the government, and they’re also sometimes called alternative or no-income-verification mortgages.
Common non-QM mortgage options include:
- Bank statement loans. With this program, lenders calculate your income based on an average of your deposits over the last 12 to 24 months. You can use your personal or business bank statements.
- Asset-based mortgage loans. Also known as “asset depletion loans,” these mortgages allow you to count certain assets — like savings accounts, investment accounts, certificates of deposit (CDs) or 401(k)s — as qualifying income.
If you go with a non-QM loan, you’ll have to pay a larger down payment, higher closing costs and steeper interest rates than you would with a qualified self-employed mortgage. Still, it can be a great way to bridge the gap when your tax returns aren’t acceptable to traditional lenders — assuming that you can afford the loan payments.