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Qualifying for a Mortgage as a Self-Employed Individual

This article was written by in Real Estate and Home. 19 comments.


I mentioned recently that I’m considering buying a multifamily home in the area close to the local Ivy League university and renting out the units, and perhaps living in one unit myself. A quick search on Yahoo Real Estate reveals two are available, priced a $665,000 and $420,000. My current lease isn’t finished until July next year, so I’m in no rush to move. But perhaps I should be.

One other fact acting against my thoughts about purchasing a home is my intent to leave my day job in favor of working for myself full-time. Receiving income from a company reported on a W-2 form shows mortgage lenders that I have a stable income, but ironically I could earn more by abandoning the 40 hours I spend each week working for this company and using that time to further build my own business.

Without W-2 forms, mortgage lenders are more wary about awarding loans. I have read that having two years’ worth of tax returns showing income from a business is sufficient for proving income, but any business owner tries to reduce the amount of income on a tax return by deducting legitimate expenses as allowed by the tax code. For the purpose of a mortgage, a business owner might want to show higher income, passed onto the business owner rather than retained in the corporation (not LLC).

So this puts me in a delicate position. A quick run through a mortgage pre-qualification calculator shows that I should be able to qualify for these mortgages considering the cash I have available for a down payment and no current debt. Do I delay leaving my day job behind in favor of keeping my W-2 income or do I press my luck with recent tax returns? Feel free to leave comments with any insight you would like to share.

Published or updated September 5, 2010. If you enjoyed this article, subscribe to the RSS feed or receive daily emails. Follow @ConsumerismComm on Twitter and visit our Facebook page for more updates.

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About the author

Luke Landes, also known as Flexo, is the founder of Consumerism Commentary. He has been blogging and writing for the internet since 1995 and has been building online communities since 1991. Find out more about him and follow Luke Landes on Twitter. View all articles by .

{ 19 comments… read them below or add one }

avatar Dogatemyfinances

If your company (LLC or not) is a passthrough, which I would imagine it is in the start, then it is a wash. That’s not the problem, it’s the two years which is Sallie’s rule.

This was one of our main obstacles, and we were just trying to buy a residence at 300K. I would imagine it is a nightmare to buy that much property with self-employment income. And, wow, is that ever expensive and a lot of risk. There is no way I could sleep at night with that much risk — self-employment and a seriously leveraged rental.

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avatar Noone

The best lending rates usually go to owner-occupied, single-family homes. If you are not planning to occupy the property, you will probably have to prove higher income to cover the expense of living somewhere else. You may want to talk to a lender or real estate professional rather than rely too much of internet calculators that more accurately reflect a buyer in a situation different from your own. Good luck.

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avatar The Yakezie

I would just buy your place while you have a full time job, so you can qualify and get whatever house you want. Once you are in the house, then you can quite and do whatever you want since you no longer need to qualify.

Seriously, this is the best advice.

Gluck!

Sam

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avatar Apex

It is amazing how rigid the banks can be about rules that supposedly ensure they are properly managing their risk. Obviously we have seen these rules weren’t very good. So what have the banks done? Made even tighter rules.

I expect that without 2 years of solid LLC income you would have almost no chance of getting the loan and with 2 years of solid LLC income you will still find it much smoother with W2 income. Not that it can’t be done, but I can’t really think of a good reason to try to do it after quitting when you are already thinking about doing it before quitting.

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avatar ericabiz

Just W-2 yourself from your business. That’s what I’m doing to prove income. And seriously, seriously do not delay leaving your job to buy a house. That’s crazy talk. Having a mortgage^Wnoose around your neck will also give you more of an excuse to stay at your job. Whatever you do, your freedom should come first!

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avatar Luke Landes ♦127,490 (Platinum)

Thanks for the suggestion, Erica. Looks like I have a lot to talk about with my accountant.

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avatar Jerret

It’s income history more than anything. I didn’t have a problem getting a mortgage as a self-employed person. But I did have to provide a lot more documentation (bank statements, tax returns, etc.).

However, if you leave your job and immediately try to get a mortgage, it’s probably going to be a no go. If you have some time, then go for it. Unless your job is fulfilling, why stay? Why not do what you want to do ALL day?

Just my humble opinion.

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avatar shweta

in any department in which you are doing job no need of experience… if you are fresher but you are qualified to do that work then you will get 100% success in that feild.
i am the best example for this one realy!

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avatar Doug Warshauer

My gut feeling would be not to buy the home at the same time you give up the day job. It’s too risky.

When you’re focused on expanding your business, you want to maximize your financial flexibility. If your business’ income does expand as you expect it will when you can devote all your time to it, you’ll be able to buy the home in a couple years. And if it doesn’t, you won’t have boxed yourself into a corner.

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avatar Saranade22

As a self employed person who bought a house… what your bank will likely look for in terms of your business income is the average amount you made in your business over the past two years. So, if you’re depending on an increased income due to quitting your day job, that’s not going to show up on your tax forms etc. that you’ll be handing over to the bank until a year from now.

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avatar Luke Landes ♦127,490 (Platinum)

Thanks for all the suggestions. My perspective is changing as often as the advantage point between Soderling and Federer.

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avatar Josh Heckathorn @ Creditnet

Seriously — quit the day job. It’s not worth it. Focus on doing what you love and I’m sure you’ll make a lot more money anyway.

Is your business set up as an S-Corp or an LLC taxed as an S-Corp? If so, pay yourself reasonable W2 wages, and the rest of your profit will flow through to your 1040 via a K1. The combination of the two will be considered your gross income, but anything that flows through via the K1 isn’t subject to FICA.

I’ve gone through the underwriting process as a self-employed applicant and you just need to be prepared to cough up copious amounts of documentation to make it work. You’ll also need to do a lot of explaining to help the loan coordinator truly understand how small businesses work. Most have no clue at all, and they tend to cause more confusion with the underwriters when they try to explain things.

If you have a profitable business that’s more than 2 years old, W2 flowing from the business to you as the owner, and a lender that understands how small businesses work, then the stars should all align for you. However, like Jerret previously posted, your lender won’t like that you just quit your day job. If you decide to quit right now, you’ll probably need to wait awhile and prove that everything’s running smoothly in your business before you’ll get approved. Or you could buy the place first and then do whatever you want after you close on the loan. Of course, that would mean you have the upmost confidence in your business and its future growth, as well as the investment potential for this property.

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avatar de

Our bank wanted customer history for the last five years. After providing them with a large box of records. they called and basically told us we had a lot of nerve applying for a mortgage with our income. Questioning revealed that these financial geniuses thought January’s income was our yearly income. We were gracious enoughto let them loan us money anyway!

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avatar Bmhoward22

I am in a similar situation being self employed and nine days from closing. I was pre approved for a certain amount, went under contract with a home we love, had the inspections and put money down and so forth now we just found out yesterday our loan wasn’t approved by the underwriter b/c I am self employed. I have had an s-corp for 4 years and I wasn’t paying myself enough money the past 2 years therefore denying me the loan. I am now looking for a lender so this purchase doesn’t fall through. We thought we did our home work and can certainly make the monthly payments, down payment and closing costs. It’s a mess so be sure to triple check your self employment will not be a problem with securing the loan. If someone knows of a mortgage lender specializing in self employed lending I am all ears! This has become a big mess!

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avatar Maria Harbert

Just wondering if you ever had any success. We are in this very situation, and the underwriter hasn’t said no yet, but we’ve provided every detail we can and they aren’t saying yes yet. We’ve put $3,000 down and paid for 2 inspections and 2 appraisals, and are on the verge of losing this whole deal tomorrow. If you have any recommendations, please pass them our way asap!

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avatar Julie Kinnear

Whatever you do, try to do a little math first. Calculate how much money you need to qualify yourself to get the loan. Then recalculate how much money you can leave aside, when you start up your business, to satisfy the loan requirements. Then try to compare how much money you can get from your current job and compare it with potential profit of your business. If you do all this you can easily find out how you can cope with your earnings in the future. You can also count with some additional value that either current job or further self-employment can bring to your life.

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avatar Elizabeth Browne

I have an LLC and want to apply for a personal mortgage loan. However, I take all my “income” from the LLC in the form of owner’s draws, not a salary. The bank wants 2 years of tax forms, but if you just look at the income claimed there, it’s not adequate at all. Is there a way to provide some balance to those low numbers with other documents that would show how much was taken as owner’s draws and were not business expenses? Just wondering how I can look better to the bank.

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avatar AJ

Elizabeth : Did you receive any replys to your question. We’re in the same spot you are in.
Thanks, AJ

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avatar AJ

I would think you could show copies of cancelled checks of owners draws to you from your company.
Does anyone know if this would work?

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