Times may be good for entrepreneurs. They may work from their pajamas or wrap a computer in their bag and tap by the lake, on their veranda, on their boat, or speak to their clients while jogging or racing their mastiff. Few want to give up these schedules. They call it liberating and authentic. At the same time it may be harder for them to get a mortgage.
The IRS/ bank has different considerations
Conventional financing is just that. It is for those who have a conventional job. These individuals can speak to conventional lenders in language that they understand. They can show them regular income that is derived from regular sources in a regular setting. Regular people have W-9s and tax-slips. Irregular workers have none of that – few are contracted and so few can provide evidence of steady labor or proceeds. Results: Self-employed people may run afoul of IRS rules and fail in exiting traditional lending institutions with a mortgage.
Ironically, one of the reasons that self-employed people fail is because many of them deliberately lower their stated income. This is done in order to take advantage of a number of loopholes that enable them to avoid paying tax. This is great for entrepreneurs (or self-employed individuals in general) in that they have more coming in, but it also lowers the amount of their income on paper making their total results less impressive and failing to persuade the lender to consider them for a traditional loan. This could reduce the loan amount that the borrower can qualify for, or even result in rejection.
Some mortgage lenders allow certain deductions to be added back to the income such as depletion, depreciation or a large, nonrecurring item. Some don’t.
Tips for self-employed people who want mortgage loans the traditional way.
At the moment, the US Bureau of Labor statistics calculates that there are almost nine million self-employed people in the United States. If you’re one of these and seeking a loan, experts advise that you can do one of several things:
1. Plan ahead before borrowing
Prepare longer than the conventional worker before buying a home. Write off fewer expenses in the two years leading up to the big purchase. Clean up your finances. Separate your business from your personal funds. For example, pay for your Dell Chromebook using a business credit card rather than a personal one. Personal then becomes divided from business and lenders, who look at your overall personal fiscal health, may notice the difference.
2. Show year-over-year increases
Choose your years carefully. Lenders may understand seasonal ups and downs in income but may be less tolerant to massive decline from one year to the next. Business can be highly volatile; that’s life. But traditional lenders generally dislike risk and possess a different perspective. They like the steady regulating inflow of money. You’ll want to show a ‘cushy’ picture of escalation rather than fluctuation to convince them that your business is good.
3. Or settle for an alternative
Sometimes, one has to loop-around to achieve one’s goals. You may be lucky enough to enlist someone who has high enough income on his or her tax returns to be a co-signer on the mortgage. Or if you’re intending to apply for a mortgage as a form of investment rather than as a place for living, you may want to consider looking for a smaller loan. In this way you can settle for a condo or townhome – take your risks on that – and work your way up to killer shark property when you’re more able to afford it.
And then there’s the ‘liar loans’…
Actually, so-called liar loans are the pseudo terms for stated-income loans. They are called ‘liar loans’ because some borrowers would fudge their income to procure them.
What are stated income loans? They are created for self-employed individuals. Here, you find a private lender who may be willing to lend you a loan based on your say-so and powers of persuasion. You ‘state your income’ and the lender may/ not go ahead.
Understandably, these kind of loans have caused havoc for decades since too many borrowers have willfully or otherwise under-stated their income. Results: Lender has lost money and/or borrower has lost his property and finds himself frequenting the court.
How do these stated-income loans work?
Stated-income loans have tightened since the turn of the millennium. Lenders have become much flintier only considering you if you can prove that you are making enough money to warrant a loan. They won’t demand the same barrage of forms that traditional lenders do nor will you have to endure that mind-creakingly tedious and long bureaucratic process. Private lenders are faster and more convenient. They do understand your situation – after all most of these lenders are self- employed themselves – but they’ll want to see facts such as bank or brokerage statements and FICO scores. Bank statements show your pool of ready and excess money in case your income dries up. FICO scores show your reliability in repaying your debt. The best scores are 700 or higher, though some lenders may consider the 600 range. You’ll also want to show that your bank account covers at least 12 months or more of mortgage payments.
What to watch out for.
Stated income loans lapse from the absolute paradise that some advertisers make them out to be. Watch out for higher income rates and greater risk. At this time of writing, premium interest rates are approximately 3% more than a conventional loan. So a 4.5 percent conventional loan for a premium-credit borrower turns into a 7.49 percent stated income loan for the same borrower. Lenders may profit more than you since they seek a high yield. Your charges are more likely to come with higher prepayments too. This is all a part of the return for their capital that private lenders – who dole from their own pockets – expect from you.
Where can you find lenders who deal with stated-income loans?
Stated-income loans are becoming more common but aren’t exactly mainstream. The best way to find them is to look for mid-sized or smaller lenders. Consumers can search for “non-conforming loans,” “non-QM loans,” (i.e. non-qualified mortgage loans), “no ratio” loans, “alternative documentation loans,” “portfolio programs”, “alternative-income verification loans” and “asset- based loans.” … You’re more likely to find them offered by higher yield lenders