How To Get A Mortgage If You’re Self-Employed
Are you self-employed and working hard to build your business and leave your mark on the world? Of course, you’re proud of what you've accomplished – and prouder still that your success has put you in a position to become a homeowner. So what do self-employed buyers need to know when submitting a mortgage application?
Self-employed borrowers typically provide more paperwork than conventional employees, who often only need to produce a few years of W-2s, personal tax returns and recent pay stubs.
However, as long as you’re prepared for it – and your personal finances are in order – you can become a self-employed mortgage borrower.
Is It Harder To Get Approved For A Mortgage While Self-Employed?
There’s a common misconception that it’s difficult to get a mortgage while self-employed. The biggest difference is the documentation your lender may require in support of your mortgage application.
Do Self-Employed Home Loan Borrowers Have To Meet Different Standards?
Mortgage lenders evaluate self-employed clients the same way they evaluate other borrowers. They’ll want to see that you have a decent credit score. They’ll also look at your debt-to-income ratio (DTI) to determine whether you can comfortably afford the mortgage payment associated with the loan. Finally, lenders will look at your assets and income account statements to verify your resources.
Does Every Lender Have The Same Policies For Self-Employed Mortgage Loan Borrowers?
Rules can vary based on the lender and the type of mortgage you’re getting, so shopping around might be more difficult if you’re self-employed because every lender has different policies in place regarding risk mitigation. As you search for a mortgage lender, make sure you’re clear about what documentation they’ll need from you.
What Documents Will You Need To Provide?
Mortgage loan officers will need to understand your business model, assess your expertise in your chosen field and evaluate your ability to earn a stable income for at least the next 3 years.
While underwriting standards will vary based on the lender and the type of home loan you’re getting, the same types of documents are likely to be required. Here’s an overview of some of the common documentation used across the industry:
- Insurance policies: You could use a current statement of bond insurance (the policy must be at least 2 years old). You might also have to show evidence of workers’ compensation and employer’s liability insurance.
- Letter from a CPA: Another option is to provide a letter from your licensed CPA, enrolled agent or tax preparer.
- Completed purchase orders: In some industries, letters or order forms from clients indicating performed services can be used to confirm your earnings.
- Business organization memberships: You may also be able to use a membership letter from a professional organization that can verify at least 2 years of self-employment through your membership.
- Business licenses: You may need to provide state and business licenses that are required in your profession.
- Doing business as (DBA): You may need to provide a DBA that was issued at least 2 years ago. If you’re using a DBA for verification, you must prove current self-employment with 2 months of recent business account statements, creditor statements or company invoices.
- Tax returns: You’ll probably need to have at least 1 year of business and personal tax returns for income documentation purposes and W-2s if your business is incorporated. Depending on your situation and the loan’s requirements, a longer tax history may be required.
- 1099s: If you’re an independent contractor, your lender might ask for copies of your 1099s to obtain more detailed information about your income.
- Profit and loss statement: You may need to show a year-to-date profit and loss statement, preferably audited by a CPA. If you submit unaudited statements, you may be required to provide your most recent business bank statements as well.
- Bank statements: It’s important to have bank account statements that verify the amounts you have in personal savings and investment accounts. You’ll need to show that you can make a down payment and retain savings in case of a loss of income.
How To Calculate Self-Employed Income For Mortgage Loans
Once your lender has collected your documentation, they’ll calculate your income using a formula. You can also figure out your self-employment income in the same way with the following steps:
- Determine your net profit for the previous 2 years from your tax returns.
- Add each year’s net profit.
- Divide the sum by 24 to find your average monthly income.
For example, let’s say you made a net profit of $60,000 in 2020 and $75,000 in 2021. You would add these amounts together to get $135,000. After dividing the result by 24, your monthly income would come out to $5,625.
How Do You Know Which Mortgage Lenders Are Best Suited For Self-Employed Borrowers?
There was a time when your only option was to go to your local bank branch and meet with a loan officer. The loan officer would gather your financial information and tell you what mortgage terms the bank could offer. Today, there is a wealth of options and information available to those looking for a new home.
You can search online, carefully looking for any information directed to self-employed applicants. You can also call or chat online with lenders. For example, you can speak with one of our Home Loan Experts or chat online with a person – not a bot – until midnight ET to get all of your mortgage questions answered.
Work With A Mortgage Broker
You can also consider working with a mortgage broker. It’s their job to know the ins and outs of each lender’s policies toward self-employed borrowers. A mortgage broker’s relationships should help move your mortgage application forward. Check out our mortgage broker directory.
How Can You Prepare Before Applying For A Mortgage?
Whether you’re self-employed or a traditionally employed borrower, leave plenty of time when applying for a mortgage. This will make the application process quicker, easier and far less stressful.
Review Your Credit Score And Credit History
As a self-employed mortgage applicant, making sure your credit score and credit history are in the best possible shape will set you up for success when applying for a mortgage. Consider doing the following:
- Check your FICO® Score: Checking your FICOⓇ Score is a great way to get a baseline for your current credit score. Doing a soft credit check on a banking app won’t negatively impact your credit score and will inform you about the current health of your finances.
- Pull your credit reports: Request your credit reports from the three major credit bureaus. Check for common errors like incorrect account information or identity errors that could complicate the underwriting
- Correct any errors: If you have negative items or mistakes on your credit report, speak with a Home Loan Expert about how best to correct them or how long you’ll need to wait before applying.
- Establish a credit history: Your credit history tells lenders how well you’ve managed your debt. If your credit history is thin, consider building your history by applying for credit cards several years before applying for a mortgage and making on-time bill payments.
- Maintain your credit score: A good credit score will help your chances of getting a good interest rate on a mortgage. Make sure to pay your bills in full and on time to maintain and build credit.
- Limit your credit utilization: Your credit utilization is the ratio of your balances compared to your overall credit limit across all your accounts. It’s beneficial to keep your credit utilization below 30% every month when preparing to buy a house.
Calculate Your Debt-To-Income Ratio (DTI)
If you feel you should qualify based on your credit score and history, but you aren’t getting approved for the loan amount you need, try lowering your debt-to-income ratio. Doing so will increase your capacity to take on a higher mortgage payment in the eyes of your lender.
The best way to lower your DTI is to pay off debt. Another avenue to try is consolidating your debts at a lower rate to bring your monthly payments down to a manageable level.
Start Saving Money So You Can Make A Higher Down Payment
If you’re working with a lender and they're on the fence about your mortgage application, being able to put extra money down can go a long way toward easing their concerns. A larger down payment can increase your chances of approval and lower your monthly mortgage payments. Larger down payments can also help you secure a lower mortgage interest rate.
Separate Your Business And Personal Assets
Rocket Mortgage® Triple Crown Banker Dennis Spensley notes that it’s helpful if you can separate your business assets from your personal assets.
“Self-employed clients typically have their business and personal assets intermingled,” Spensley says. “If they can keep the funds that they will use for down payment and settlement fees isolated from their business assets in a personal savings account, that would work best.”
A large part of the mortgage process is fully understanding your current finances. To calculate your self-employed income for a mortgage, it’s important to be organized and consult with a professional to make sure you have exactly what you need to successfully obtain a loan.
Self-Employed Home Loan FAQs
Mortgages for self-employed borrowers can come with a unique set of challenges and questions. We’ve got answers to some of your most frequently asked questions.
What are lenders looking for when they’re considering my mortgage application?
Mortgage lenders are trying to determine what your job is and whether you’ll be able to repay your home loan. There is no third party – like an employer – to help them decide. So they’ll want to know about your business and how much you’ve made in the past few years. Plus, they’ll need to figure out how likely it is that you will continue to earn a steady income.
How can I show what I’ll make in the future?
There are a variety of ways to demonstrate the continuing viability of your business. You can use future contracts that you may have or your repeat business percentage. Every industry’s practices are a little different. If you’re unsure what documentation you’ll need, speak to your lender.
What credit score do I need to buy a house if I’m self-employed?
To qualify for a Federal Housing Administration (FHA) loan or a Department of Veterans Affairs (VA) loan, you’ll need a median score of at least 580. For conventional mortgages, a 620 minimum qualifying FICO® Score is required.
The qualifying credit score for a jumbo loan will depend on the lender, the loan’s purpose and the total loan amount, but the median score is typically between 680 – 740. You can qualify for loans up to $2 million with a minimum FICO® Score of 680.
Loans up to $3 million typically require a qualifying score of 720 or better. And 15-year fixed jumbo loans and 7-year adjustable-rate mortgages (ARMs) are also available with a loan limit of $2 million and a minimum credit score requirement of 700.
Will a mortgage lender check my credit history if I’m self-employed?
In addition to your credit score, a lender will look at your credit history to see how you’ve managed debt in the past. They’ll look at your history with late payments, placing particular emphasis on your mortgage or rent payments within the last 2 years. Other negative marks would include collections or discharged accounts, foreclosures and bankruptcies.
If you have negative items on your credit report, speak with a Home Loan Expert about any path forward and applicable waiting periods that may apply.
Why do mortgage lenders care about my emergency savings account?
Lenders want to see that you’d be able to make your mortgage payments even if you temporarily lose your income. As you shop around, you’ll find that lenders may have vague or unwritten policies for how much emergency savings you need to have. Generally speaking, it’s a good idea to have at least 2 months’ worth of expenses in highly liquid savings.
Lenders measure reserves based on the number of times you would be able to make your mortgage payment if you were unable to work or otherwise bring in income. While 2 months is often the baseline, more may be required depending on the loan program.
Why do lenders suggest larger down payments from self-employed individuals?
Although the down payment requirements for Rocket Mortgage don’t change because a borrower is self-employed, some mortgage lenders may try to mitigate their risks by having you make a higher down payment, which results in a lower loan-to-value ratio (LTV).
Thankfully, a larger down payment also comes with benefits, such as a lower interest rate or removing private mortgage insurance (PMI). However, you probably don’t want to empty your savings since you’ll need some cash reserves for closing costs and potential emergencies. Talk to your Home Loan Expert to see how big a down payment is required for your mortgage.
The Bottom Line
As a self-employed person, you’ll have to jump through a few extra hoops to get a mortgage. The major difference is that you’ll have to provide business income documents since your income is ultimately tied to the success of your business.
Are you self-employed and ready to apply? Talk to one of our Home Loan Experts and apply for a mortgage online today.
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