If you receive a 1099 each year, from a lending perspective you are considered a self-employed individual, even if you do work for one company and they consider you an employee. If you own 25% or more of a corporation, you are considered a self-employed individual. And, if you have an LLC or use the schedule C on your tax returns, you are considered a self-employed individual. Although some say that you can obtain a loan with at least a 1-year history of being self-employed, 2 years is generally needed when applying for a Conventional, FHA, VA, or USDA loan.
So, let’s start with what is needed for a self-employed borrower. (Note, due to COVID-19, additional items are required by Fannie Mae, Freddie Mac, and Ginnie Mae)
- 2-years of filed tax returns with all schedules.
- For corporation owners of 25% or more, you will need two years of business tax returns with all schedules and K1’s
- 3 most recent bank statements to show total revenue deposits
- Un-audited YTD P&L
- If you can provide an audited P&L from your CPA, bank statements are not required
Ok, now that you have provided the documents listed above, what is next? I will calculate your income based on what you have reported to the IRS on your tax returns. That income will be averaged over a 24-month period. If the income has declined say from 2019 to 2020, additional tax returns or documents may be needed. There are some items that we can add back in, for Sole proprietor or Schedule C income, we can add back in items such as business miles or meals and entertainment. For corporation owners of 25% or more your W2 income and other items will be used as part of the income calculation.
Since COVID-19, it has become a little more difficult for self-employed borrowers to qualify. The P&L and the bank statements will be used to support the income calculated from the most recent tax year. The deposit must support the income.
Now this is where I see a lot of frustration from people who are self-employed. People who don’t know, and why would they, but we don’t use your Net revenue as your income, we go solely based on your filed tax returns. So, if you, your accountant, or CPA do their job well to reduce your tax liability, it may be very difficult for you to purchase a home or refinance. Too many times I have people tell me they made a certain amount of money last year, but after looking at their tax returns and all the legal write offs, they reported to the IRS they made half of that amount.
So how do I handle a situation where the previous tax year doesn’t show enough income? First, I estimate the amount of income they need to show so they will qualify with their current debts and mortgage amount that are seeking. Second, I offer to work with their tax preparer when the next tax filing season comes around. This way we are still maximizing write offs but showing enough income to qualify. If the client is not wanting to wait until next tax season, I offer what is called a bank statement loan. This loan is not your standard loan and is considered a Non-QM loan.
A Non-QM loan is a loan that doesn’t follow the rules and regulation that were put in place after 2008 to protect the consumer from high priced loans. Now, just because you are looking at using a Non-QM loan, doesn’t mean you are going to be charged exorbitant rates and fees. Short disclaimer, the rates and fees are higher then a standard Conventional or FHA loan, but most individual use this loan to obtain a home and refinance out of them when they can qualify for a traditional loan. Plus, these loans give you a lot more flexibility.
My best advice to anyone who is self-employed and looking to purchase a home or refinance is to reach out to me ASAP. I will take the time to thoroughly explain the process and calculate your income correctly. In the event you are not able to qualify, all will not be lost. I will be able to provide you an estimated income amount that is needed to qualify. This way you can anticipate the increased tax lability for the next tax season.
Nick Palmer NMLS 973806
“There is only lack of action, not lack of ability”