One of the most common concerns I hear from business owners and self-employed borrowers is:
“My business is doing well, but will a mortgage lender see it that way?”
That's an important question because qualifying for a mortgage when you're self-employed can look different from qualifying when you receive a regular salary and W-2.
Being self-employed doesn't automatically make it harder to get a mortgage. The difference is often in how your income is documented and analyzed.
If you're a business owner, independent contractor, consultant or other self-employed professional thinking about buying a home, here are some things I want you to understand before you apply.
1. Your Business Revenue Isn't Necessarily Your Qualifying Income
This is probably the biggest misunderstanding I encounter.
Suppose your business generates $300,000 in annual revenue. That doesn't necessarily mean a mortgage lender considers your income to be $300,000.
The lender needs to determine how much income the business actually produces for you after considering applicable business expenses and other factors.
For conventional mortgage qualification, self-employed income analysis can involve personal and business tax returns and the schedules associated with the borrower's particular business structure. Freddie Mac, for example, identifies Schedule C, S corporations and partnerships among the business structures its income-calculation tools support.
That's why I tell self-employed borrowers:
Business revenue and qualifying mortgage income are not the same thing.
2. Tax Returns Tell an Important Part of the Story
For many traditional mortgage programs, tax returns are an important part of documenting self-employed income.
Depending on the borrower's circumstances and loan program, the lender may review personal tax returns, business returns and applicable schedules.
They're looking beyond a single number.
The analysis may consider the history of the income, whether earnings are stable or changing, the financial health of the business and whether the income appears likely to continue.
That's fundamentally different from simply looking at what was deposited into a business checking account.
3. Business Deductions Can Affect Mortgage Qualification
Business owners naturally want to take legitimate deductions available to them.
Those deductions can reduce taxable income.
That's helpful at tax time—but it can also mean that the income shown on a tax return is lower than the amount a borrower might informally think of as their earnings.
Freddie Mac specifically notes this issue in its consumer guidance: business expenses may reduce taxable income, which can affect the income used when evaluating mortgage qualification. My Home
That doesn't mean every deduction simply reduces mortgage income dollar-for-dollar.
Certain items may receive different treatment under applicable underwriting guidelines.
The important point is this:
Don't try to calculate your mortgage-qualifying income by looking only at gross revenue or deposits.
Have the numbers properly reviewed.
4. How Long Have You Been Self-Employed?
The history of the business can matter.
Lenders generally want evidence that self-employment income is established and likely to continue. The precise requirements can depend on the mortgage program and circumstances.
A shorter history of self-employment doesn't necessarily mean there are no options, particularly when previous employment, education or experience is related to the current business.
But this is something I would want to know early in the conversation.
If you left a salaried position six months ago to start a completely unrelated business, that may be viewed differently from someone who spent years working in an industry before becoming an independent consultant in that same field.
5. Lenders May Look at the Direction Your Income Is Moving
Consistency matters, but so does the trend.
If your business income has been increasing, that's one picture.
If it has declined significantly, the lender may need to understand why.
A decline doesn't automatically mean the borrower can't qualify, but it may affect how the income is analyzed.
That's one reason I prefer reviewing self-employed income before someone becomes emotionally attached to a particular house.
We have time to understand the numbers rather than discovering an issue after a purchase contract has been signed.
6. Be Prepared for Additional Documentation
A salaried employee may be able to document income primarily with items such as pay stubs and W-2s.
Self-employed borrowers may need additional documentation.
Depending on the loan program and situation, documentation for self-employed homebuyers could include tax returns, business returns, applicable tax schedules, a year-to-date profit-and-loss statement or other documentation needed to evaluate the business and income.
Freddie Mac's consumer guidance, for example, identifies tax returns, business returns, a year-to-date profit-and-loss statement and a balance sheet among documentation that may be relevant for a self-employed borrower.
The exact documentation depends on the borrower and program, so I wouldn't recommend assembling a giant stack of paperwork before speaking with the lender.
Find out what's actually needed for your situation.
7. Don't Make Major Financial Changes Without Discussing Them
This advice applies to most mortgage borrowers, but it can be particularly important for business owners.
Before moving large sums between personal and business accounts, changing the structure of your business, taking on significant new debt or making other major financial moves during the mortgage process, talk with your lender.
The objective isn't to interfere with running your business.
It's to make sure a decision that makes perfect business sense doesn't unexpectedly create additional documentation or affect the mortgage analysis.
8. What If Your Tax Returns Don't Reflect Your Current Cash Flow?
This is where the conversation gets particularly interesting.
Traditional income documentation isn't necessarily the only mortgage path available to every self-employed borrower.
Depending on the borrower's circumstances, property and available loan programs, there may be financing designed to evaluate income using alternative documentation.
For example, certain bank statement loan programs may evaluate deposits over a specified period rather than qualifying the borrower solely through the traditional tax-return approach.
These programs have their own qualification standards and are not appropriate for everyone.
But if you're a successful business owner whose tax returns don't tell the whole financial story, it's worth asking whether another documentation method may be available.
And this paragraph sets us up beautifully for a future Stuart article specifically about bank statement loans.
9. Have Your Income Reviewed Before You Start Shopping
This is probably the most useful advice I can give a self-employed homebuyer.
Don't wait until you've found the house to determine how a lender will calculate your income.
Have the conversation first.
I would rather review the documentation early, understand the business structure and identify the appropriate financing options before you're under a purchase contract.
You may discover that your qualifying income is different from what you expected.
You may also discover that you have more options than you realized.
Your Business Doesn't Have to Fit Into a W-2 Box
Self-employed borrowers aren't all alike.
A sole proprietor, consultant, contractor, partnership owner and S corporation shareholder can have very different financial pictures.
That's why I don't think self-employed mortgage qualification should begin with assumptions.
It should begin with the numbers.
If you're self-employed and considering buying a home in Maryland or another area where I'm licensed, I'm happy to review your situation and help you understand how your income may be evaluated before you begin seriously shopping for a home.
Charles Stuart Kiehne (Stuart Kiehne)
President | Mortgage Loan Officer
Redwood Mortgage Services
NMLS #92008
www.Redwood-Mortgage.com
All loans subject to approval. Program availability, documentation requirements, terms and qualification requirements may vary. Equal Housing Lender.
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