Self-employed borrowers are those people who hustle clients for a living or work with an employer who pays a monthly wage but a 1099 is issued at the end of the year instead of a W2. In general, most lenders require a 2-year history of self-employment proven by 2 years of tax returns to qualify for the lowest down payment options. There are lenders who will allow 24 months of bank statements, rather than 2 years of tax returns to prove self-employment income, but there’s a higher down payment normally starting at 15% and a minimum credit score requirement of 650. The credit score and down payment requirements on the 24-month bank statement program varies per lender.
Borrowers who want to qualify for the lowest down payment options to purchase a home must provide their last 2 years’ tax returns. I’ll focus on the Profit and Loss from a Business Schedule C tax filing for the sake of this article. I’m no tax professional, but normally sole proprietors and sole member LLCs file this Schedule C. The IRS allows for a ton of deductions to self-employed people, but what borrowers must keep in mind is whatever you told the IRS you made Net, is what the lender agrees you made. Your net income, line 31 of the Schedule C is what’s considered your income for the year. The lender will take that figure over your last 2 years’ tax returns add them together and then divide that 2-year sum by 24 months. Depreciation on line 13 and Depletion on line 12 of the Schedule C are added back in to that average. This figure is what the lender will use as your qualifying self-employment income. Your income is the baseline of your debt to income ratio calculation which determines the maximum loan amount you qualify for. The new mortgage payment plus your open monthly debts are added together then divided into your monthly income to come up with your debt to income ratio percentage. The rule of thumb is for that percentage to be no more than 41%, there are exceptions to that ratio requirement but in general that’s a safe place to be.
So, when you know you want to buy a home and you file a Schedule C business as part of your tax returns you should keep in mind that for the next 2 years you want to show as much net profit on line 31 of the schedule C as possible. Take the hit by getting a smaller refund check from the IRS so you can qualify for as much home as you’d like to have with the lowest down payment possible. Pay attention to what your tax preparer has done! I talk to so many Schedule C filling borrowers who have no idea what the tax preparer filed with the IRS. While the work a tax preparer has done is legal, a lot of times so many deductions have been taken that a self-employed borrower who grossed $50,000 for the year could net only $10,000 in profit, I’ve even seen a net loss for the year where the borrower made no income and went in the red. The lender will do simple averaging math to calculate your income so put yourself in the best position possible to buy a home.
To discuss self-employment and qualifying for a home loan or any other questions you have you may contact me direct at 404-932-0170. You can also visit my website at www.mybrokercharm.com
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