You have worked hard to be a self-employed rock star, and you’re ready to set your sights on a new home. But perhaps you have heard horror stories of other self-employed people having to jump through impossible hoops to get a remotely decent rate and terms on a mortgage, let alone obtain a mortgage at all. It’s not true! We promise! It is possible to obtain a self-employed mortgage and get terms on a new home that you can be happy with. With some essential information, you can achieve yet another American dream on top of your self-employed rock star status.
Let’s first talk about a few misconceptions you might have about getting a home loan as a self-employed taxpayer. Once we get these misconceptions out of the way, you’ll feel a lot better about taking the next step.
1. Self-employed mortgage applicants pay a higher interest rate
If you have proven good income and good credit scores, it is entirely possible to receive an excellent interest rate, on par with a W-2 taxpayer. That said, your application will receive far more scrutiny. Unlike a W-2 applicant whose paperwork provides a clear view of income, you may have multiple sources of income, and that income may fluctuate.
Which leads us to the second common misconception:
2. You’ll need a co-signer to get approved for a loan
If you can show good income and credit, getting a co-signer is not your only option for a self-employed mortgage! However, if there is difficulty establishing those key factors, a co-signer can help qualify you by using their verified income.
3. You always need to report self-employed income
If you are a salaried employee and you moonlight in a self-employed role, you can choose to be qualified solely on your salaried pay, provided it is enough to qualify you for the loan amount you want. Also, if you decide to have a co-borrower, you may not need to report your income if the co-borrower’s income is sufficient.
By now, you can tell that the misconceptions surrounding self-employment and mortgages are primarily based on where you stand with income and credit scores. So, what’s a future homeowner to do? It’s time to reveal the steps necessary to put yourself in the most favorable light for your mortgage success.
The Steps to Homeownership
1. Work towards stable and increasing income
A little bit of fluctuation in income is ok, but in general, your tax returns should show multiple consecutive years of stability and growth within your business. Lenders will be better able to predict what your business will do if there are trends in place to help them. If you can, plan on purchasing your new home once you have two to three years of self-employment income established.
2. Maintain good credit scores
Paying your debts on time and keeping account balances low are ways in which you can establish and maintain good credit scores. Your lender will be looking for foreclosures, bankruptcies, delinquencies, or repossessions, all of which will lower your creditworthiness.
Additionally, the type, age, and balance of your revolving accounts will come into play. How often you apply for credit is also a determining factor. Finally, be aware that they will look at your business accounts if you have them. Maintaining a good credit score also means that you work towards eliminating as much debt as possible. In the months before you apply for your home loan, don’t ask for any new loans or credit cards, as this may harm your credit rating.
3. Put down a large down payment
Putting a substantial amount down when you purchase a home shows that you are a serious buyer. You have personally invested a large sum from the get-go, which indicates you have a significant stake in the loan. Generally, your down payment will not differ from that of a regular borrower; however, if your income stability or creditworthiness is less than perfect, a larger down payment will help offset less-than-ideal numbers. Save as much as you possibly can before applying for a loan.
4. Show a consistent work history
Your lender will want to see at least two years of steady work. If your work history includes self-employment and W-2s from an employer in the same field, that generally will work as well.
5. Create a cash reserve
If your income is inconsistent throughout the year, it can be helpful to show that you have a large cash reserve to weather slower months. We’ve mentioned how important it is to save for your down payment, but make sure you don’t use all your savings when you purchase your home. Set aside a sizable amount as cash reserves, so you (and your lender) know you are covered should you run into any shortage of income.
6. Maintain spotless business records
The easier it is for your lender to understand your business, the more likely you will be approved for a loan. Separate your business and personal checking and savings accounts. Keep track of invoices and expenses each month, create an updated profit-and-loss statement frequently, and always keep your tax records from previous years. If all the information is readily available and neatly presented, it goes a long way in showing your ability to manage money.
There are so many self-employed rock stars these days, so it is no longer far-fetched for them to successfully navigate home buying. With a bit of pre-planning and a very organized system, you can present yourself as a worthy candidate to your lender. Use our checklist above to determine whether you are ready or if there are steps you can take in the coming months to position yourself to qualify for the loan amount you want.
When you’re ready, Strategic Mortgage Solutions will be here to walk you through the very attainable process of buying your home!