Being self-employed has challenges all its own, not limited to an immense amount of responsibilities and enormous expenditures. Trust me, I’ve been there…
Is homeownership one of the goals you have in addition to owning your own business?
As a mortgage lender I engage and assist dozens of self-employed (SE) borrowers throughout the year and it happens time and time again where a SE borrower simply cannot qualify for enough of a mortgage loan. This can be terribly frustrating and disheartening for both the Mortgage Advisor and applicant alike.
The intent of this article is to shed some light on the subject and in the process hopefully help many of you with preparing for the potential issues that may lie ahead.
First, I feel it is important to explain the title of “Double-Edged Sword”.
If you’ve read this far you are probably self-employed and already know how expensive it is to run your business, regardless of the profession, from materials, payroll, insurance and on and on, it seems like a never-ending revenue drain. Having said that, being SE does come with the benefit of writing off those expenses, thus creating a lower taxable income. We’ll call that “Edge A” for Advantage.
On the other side of the sword, now called “Edge B” for Burden (or whatever you see fit) is that regrettably when the SE borrower submits an application to a lender, we also recognize this “bottom line” or Tentative Profit or Loss per line 29 of your Schedule C and take that figure into account for your available income. The outcome, in most cases, is a lack of lending capability or purchase power.
Also worthy of note is the fact that we typically take a two-year income average of your Schedule C income, for example, if you opened your business is 2016 and showed a loss of -$7,500, then as your business gained some traction in 2017, showed a profit of $12,500, your qualifying annual income is only $5,000!
So the obvious way to counteract this is to show more positive income for a two year period and swallow the jagged pill of paying the tax man in addition to all of your other operating expenses. That is a noble way to go about it however it can, in some cases, take you up to two years to right the ship to a point where you would qualify for a large enough loan to meet your needs.
I’ve outlined a few helpful tips below that may help you realize you dream of homeownership sooner or potentially with less tax burden;
Helpful Tip #1: Some expenses can be added back into your qualifying income! We are allowed to add in any depreciation (Line 13 of your Schedule C), so using the example above, if you deducted $15,000 worth of depreciation in 2017, your qualifying annual income would increase to $20,000 but for the sake of tax purposes would still show a Tentative Profit of only $12,500.
Helpful Tip #2: Know what programs are out there! At Province Mortgage we have access to a loan program, for SE borrowers, that is deposit based. Depending on the manner in which you compensate yourself, we are allowed to use your payroll generated from your business over a 12 month bank statement ledger to calculate your qualifying income without even looking at your income taxes!
This unique program is available for business owners of as little as 1 year (provided they have prior industry experience of course – A good example being a hairdresser of several years purchasing the salon from her former boss a year ago). We can also use this program for a business that has been in operation for 20 years. The primary benefit is that we do not need to look at your taxes therefore eliminating the need to impact your tax liability.
Disclaimer: It is important to understand that there are several different types of self-employment, and in turn, manners in which your income is calculated, for simplicity sake I used a Schedule C Income in these examples but your individual situation may differ so consulting with a tax professional is always advised.
The simple, and hopefully, abundantly clear message here is…Get ahead of it!
Speak to a knowledgeable mortgage lender as early as possible to determine where you stand now and what you need to do to get where you need to be to achieve your individual goal(s).
When purchasing real estate choosing the right professionals to assist you in this journey will be the key to YOUR success, I have been blessed in my career to surround myself with whom I consider the very best at their profession and welcome you to contact me and my team to help Guide You Home.
Click HERE for a printable Flyer on Self-Employment and Getting A Mortgage
Self Employed Borrower-MortgageReport
8 Keys to Get Approved for a Mortgage
Content Submitted By:
Sr. Mortgage Advisor, NMLS #397424